Insurance And The Law Research Paper

1. The Term ‘Insurance’

Spencer Kimball, one of the leading insurance law scholars of the twentieth century, once wrote ‘There is no good definition of ‘‘insurance,’’ for any purpose.’ (Kimball 1992, p. 1). Kimball’s admonition notwithstanding, it is useful to begin by thinking of insurance as a formal mechanism for sharing the costs of misfortune.

Contemporary insurance arrangements typically involve fixed premiums, paid in advance, and guaranteed benefits in the event that a specified loss or event occurs; but these are not necessary elements of the insurance form. Insurance arrangements typically provide protection against risks that are fortuitous from the perspective of the insured, yet reasonably predictable in the aggregate by an insurer, and which are not so catastrophic that they would overwhelm the financial capacity of insurers (as would, for example, insurance against worldwide depression). Ideas about what is and what is not insurable, however, vary widely over time and place.

Following the French social theorist Francois Ewald, it is helpful to distinguish among four aspects of insurance: technologies, institutions, forms, and visions (Ewald 1991). These categories illustrate the conceptual variety of insurance activities and, correspondingly, some of the deficiencies in analytical definitions.

Insurance, in the sense of insurance ‘technology,’ refers to a set of procedures for dealing with risk. Examples include the mortality tables and inspection procedures of ordinary life insurance, the incentive-based medical provider contracts and computerized claim processing procedures of managed health care companies, the payroll tax and administrative review procedures of social insurance programs, and the standard-form insurance contracts used in almost all private insurance. As a technology for managing risk, insurance extends beyond what might ordinarily be understood as the insurance field; life insurance companies were pioneers in epidemiology and public health, and fire insurance companies formed the first fire departments. More recently, health insurance companies have been behind many efforts to compare, test, and measure the effectiveness of medical procedures.

Insurance ‘institutions’ are the various kinds of organizations that provide insurance. Social insurance agencies (such as the German Arbeitsamt) and stock insurance companies (such as the Dutch-based ING Group) are two (very different) insurance institutions. Insurance ‘forms’ are the various kinds of insurance provided by insurance institutions, as well as the variations in form among them. Unemployment and property insurance are two different forms of insurance. Fire insurance and flood insurance are two different forms of property insurance.

Finally, insurance ‘visions’ are ideas about and images of (or, alternatively, discursive practices regarding) insurance that animate the development of insurance technologies, institutions, and forms. Three examples follow.

(a) It was once commonly believed that life insurance was immoral, because it interfered with divine providence, equated life and money, or was a form of gambling (Zelizer 1979). This vision of insurance had important consequences for the development of insurance law and institutions in the west. It slowed the growth of life insurance, and it helps to explain the American and French preoccupation during the nineteenth century with establishing the morality of all kinds of insurance. Related ideas affect Islamic insurance institutions today (Vogel and Hayes 1998).

(b) Because the primary benefit of insurance is a sense of security which, for most people, will never be tested by a catastrophic loss, much of the value of insurance rests in the imagination. Recognizing the significance of imagination to insurance, courts in the United States place great emphasis on the ‘reasonable expectation of the insured.’ In determining the nature of that expectation, courts invoke two distinct visions of insurance. The first mirrors the vision of insurance portrayed in insurance advertising: a promise ‘to be there,’ conveyed by narratives of family and the need to protect the individual against sudden misfortune. The second mirrors the vision of insurance that companies invoke when denying claims, a complicated amalgam of tough love and protecting the insurance fund, conveyed by narratives of institutional ethics and the need to protect ratepayers against fraud and abuse. In resolving insurance contract disputes, courts first decide which of these visions to employ. Who wins a dispute often depends as much on which vision the court adopts as on how the court applies that vision (Baker 1994).

(c) The actuarial vision of insurance has had great influence over the development of insurance and insurance law. In that vision, the ideal type of insurance involves premiums paid in advance, guaranteed indemnity in the event of a covered loss, and risk-based premiums based on the best available information regarding the expected losses of the individuals insured (Abraham 1986). This vision of insurance helps explain (i) the decline of fraternal insurance over the nineteenth and early twentieth centuries, as actuarial expectations overcame values of friendship, brotherly love, and charity, (ii) also the decision to model unemployment insurance on private insurance, and the related effort to tightly link benefits to premiums, (iii) the intensity of the popular belief that US Social Security retirement benefits have been earned by the people who collect them, and (iv) the corresponding expert belief that Social Security is not really insurance (because the money to pay today’s retirees comes from the contributions made by today’s workers and not from the contributions of the retirees themselves). Indeed, the actuarial vision of insurance has been so successful that many well informed people would deny that it is a vision at all and would assert instead that it is the only valid model of insurance (Baker and Simon 2001).

2. Insurance As A Form Of Regulation

Given the size of insurance institutions relative to western economies, it is surprising that social scientists have not paid more attention to insurance. Indeed, looking at the broad sweep of twentieth century social policy, it is tempting to describe insurance as the sleeping giant of power.

In setting eligibility requirements and benefit levels for social insurance, the state is obviously engaged in the regulation of populations; yet private insurance can also be a crucial form of (delegated) state power. Rather than set their own criteria for access to economic freedoms like operating an automobile or a business, states often mandate that a person obtain some form of insurance. Examples include liability insurance for automobile owners, workers compensation insurance for employers, and (in the United States) surety bonds for companies engaged in business with the state. The state leaves it to the private market to set underwriting criteria that will determine access to these privileges.

Motivated by controlling losses and assessing risk, insurance companies establish norms of conduct which they enforce by contract terms and pricing and, ultimately, through the judicial system. Whether obtained through compulsion or prudence, insurance is a form of regulation. Exclusions and conditions written into coverage for property, life, and health amount to private legislation. Significantly, this ‘legislation’ often acts with in the home or business, where, traditionally, the sovereignty of the King did not run (O’ Malley 1991).

2.1 Insurance As Tort Regulation

The field of law most thoroughly dominated by insurance is tort law. Liability insurance pays the costs of claims made against the insured person. Because it is so difficult to collect money damages without insurance, liability insurance determines who is capable of being sued, for what wrongs, and for how much. The result is that tort law in action is shaped to match the liability insurance that is available. Also, liability insurance makes tort law in action more focused on managing aggregate costs and less focused on the fault of individual defendants (Ross 1970).

Other forms of insurance also regulate tort law. For example, liability commonly is limited whenever a statutory insurance regime is established. This not only creates a bar on certain types of tort claims, but also leads plaintiffs to shape their claims to avoid the tort bar, thereby shaping the tort system. In addition, people may be less likely to sue in tort when they have health, disability, or property insurance covering an injury (depressing the aggregate of tort damages). Moreover, in jurisdictions that deduct health or other insurance payments from tort damages, the existence of that insurance also reduces tort damages. Perhaps paradoxically, the existence of first-party insurance can also in some cases increase tort damages, by reducing the immediate financial need that might otherwise force the plaintiff to settle cheaply and quickly.

Insurance has also exerted an ideological effect on tort law. The existence of liability insurance helped make it possible to conceive of tort law as a risk spreading system—indeed, as a form of insurance— rather than simply as a mechanism for determining right and wrong in individual situations (cf. Ewald 1986). This concept of tort law has had a variety of consequences over the last 100 years. These include the simplification of tort doctrine, the elimination of common law exceptions to tort, and the partial replacement of tort law by statutory insurance schemes in jurisdictions such as Quebec, Israel, and New Zealand (Sugarman 2001). More recently, the concept of tort law as insurance has lent intellectual force to political efforts in the US and Britain to cap damages and to eliminate ‘coverage’ for pain and suffering, on the grounds that the benefits provided by the tort insurance system should mimic the (lesser) benefits provided by first party insurance (Clarke 1997).

2.2 Insurance And Governing Through Risk

The ideological effect of insurance on tort law illustrates a more general phenomenon, namely the role that insurance technologies, institutions, forms, and visions have played in governing through risk (Baker and Simon 2001). Insurance institutions pioneered the use of formal considerations of risk in the direction of organizational strategy and resources. Moreover, the actuarial techniques adopted by a wide range of institutions, from police departments to social service agencies and money managers, all depend upon thinking about the world in the probabilistic, demographic manner that insurance has helped make possible (Ewald 1986).

For most of the twentieth century the dominant form of governing through risk was that of spreading risk, as insurance institutions increasingly assumed financial responsibility for risks faced by individuals, families, and organizations. More recently, both public and private insurance institutions may be placing a greater emphasis on individual’s responsibility to embrace risk. The governmental rationales inherent in spreading or embracing risk have significant consequences for law. The spreading of risk leads to the simplification and expansion of tort law, to more expansive interpretations of the statutes regulating social insurance and the contracts regulating private insurance, and, in general, to more efforts to soften the hard edges of life. Embracing risk leads to reductions in social insurance benefits, deductibles, and benefit caps in private insurance, and links between pension benefits and market performance.

3. Insurance Law

Traditionally, legal scholars have divided the field of insurance law into two parts: (a) the law concerning the relationship between private insurance organizations and their insureds, which is considered a part of contract law; and (b) the law concerning the state regulation of private insurance organizations, which is considered a part of the law of regulated industries (e.g., Clarke 1997, Cousy 1999, Jerry 1996, Schimikowski 1999).

3.1 Insurance As A Species Of Contract

Contemporary insurance institutions grew from two distinct roots: mutual benefit associations dating back to the medieval gilds (or earlier), and marine insurance arrangements dating back to fifteenth century Italian city states (and possibly earlier, e.g., Greek bottomry loans, which were loans to merchants that were repaid only if cargo made it safely to port). Early insurance law treatises report that courts treated both these forms of insurance within the framework of contract law, adjudicating the obligations of the company or society according to the promises made in the insurance contract.

At least by the mid nineteenth century, courts in Europe and elsewhere recognized that insurance contracts differed significantly from what was traditionally understood as the ideal type of contract (a voluntary agreement, with terms that were negotiated between two parties with equal bargaining power). Because of the gatekeeper role of insurance institutions, insurance can hardly be said, in many instances, to be voluntary. Insurance companies almost universally employ standard form contracts with terms that are not subject to negotiation. And, in all but a very few cases, the parties do not have equal bargaining power. Typically, the insurance company is a much larger economic entity; competing insurance companies rarely offer significantly different terms (except sometimes price), and the insurance company has information about the meaning and value of the contract that the applicant for insurance does not. In addition, the money-for-promise nature of insurance gives the insurance company tremendous power once the insured has a claim; at that point, the insured cannot shop for a new insurance policy.

For these reasons, courts have classed insurance contracts within the general category of contracts of adhesion, and have developed somewhat more protective rules regarding the interpretation of insurance contracts (Baker 1994). Insurance contracts have long been regarded as the paradigmatic contract of adhesion.

Recently, the federal legislature and judicial system in the United States has acted to shift an increasingly large portion of the health insurance market away from a private contract regime to a not-yet-stable amalgamation of contract, trust, and administrative law. As private health insurance markets grow in Europe and elsewhere, there are likely to be similar efforts to create a paternalistic, yet market-oriented, legal regime governing the relationship between insurance companies and their members.

3.2 Insurance As A Regulated Industry

Contemporary insurance regulation dates to the nineteenth century, when a rash of insurance insolvencies in the US and Europe led to the establishment of state regulatory authorities. States limited the kinds of investments insurance organizations were permitted to make, and mandated the employment of actuaries to calculate rates and reserves, the filing of reports with state agencies, and minimum capital reserves.

In economic terms, the justifications for these and more recent forms of insurance regulation are information problems and the positive externalities of insurance. Most insurance consumers are poorly equipped to evaluate the soundness of insurance companies, to compare insurance contracts, or to evaluate the degree to which insurance companies have lived up to their promises. These information problems justify solvency, contract, and market conduct regulation. The positive externalities of insurance are the benefits that insurance provides to people other than the direct beneficiaries of insurance. Examples include the public health benefits of health insurance and the victim compensation benefits of liability insurance. These positive externalities justify regulation directed at expanding access to insurance.

Solvency remains the primary focus of insurance regulation worldwide. Regulatory tools have expanded to include risk based capital requirements, electronic auditing of accounts, and a wide variety of limits on the ways that companies can invest the funds held in reserve to pay claims. Not surprisingly, these tools have been used for other than their express purposes. Insurance can be a powerful engine of capital accumulation, and investment regulations can be used to steer capital into preferred fields. French insurance companies, for example, are required to invest some of their funds in French real estate, with the interesting result that French insurance companies have become a major force in the French wine industry. On a larger scale, prohibitions on foreign investment in insurance in countries such as India, China, Brazil, and Argentina were long justified as a way to steer capital to indigenous insurance institutions (typically government owned or authorized monopolies), which would invest the capital locally. Recently, the International Monetary Fund and the World Bank, along with the globalization of the economy, have been significant forces in opening up capital markets—including insurance—to foreign investment.

Understanding insurance as an institution for storing and accumulating capital, it is no surprise to learn that insurance firms compete with banking and securities firms. Yet, banking, insurance, and securities traditionally have been subject to different regulatory regimes. The contemporary ‘convergence’ of the insurance, banking, and securities industries in the financial services marketplace places great strain on the existing regulatory institutions, as they struggle with each other and the firms they regulate, both to achieve regulatory ends and to maintain regulatory authority (Jackson 1999). Convergence and the related trend toward globalization are likely to be the primary economic forces driving the evolution of insurance regulation in the foreseeable future. This evolution will address such fundamental issues as whether, and to what extent, there will be democratic control over capital and the proper level of governmental control (local, federal, or international) over regulatory decisions.

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