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Report to Congressional Requesters:

June 2003:

Medical Malpractice Insurance:

Multiple Factors Have Contributed to Increased Premium Rates:

GAO-03-702:

GAO Highlights:

Highlights of GAO-03-702, a report to congressional requesters 

Why GAO Did This Study:

Over the past several years, large increases in medical malpractice 
insurance premium rates have raised concerns that physicians will no 
longer be able to afford malpractice insurance and will be forced to 
curtail or discontinue providing certain services. Additionally, a 
lack of profitability has led some large insurers to stop selling 
medical malpractice insurance, furthering concerns that physicians 
will not be able to obtain coverage. To help Congress better 
understand the reasons behind the rate increases, GAO undertook a 
study to (1) describe the extent of the increases in medical 
malpractice insurance rates, (2) analyze the factors that contributed 
to those increases, and (3) identify changes in the medical 
malpractice insurance market that might make this period of rising 
premium rates different from previous such periods.

What GAO Found:

Since 1999, medical malpractice premium rates have increased 
dramatically for physicians in some specialties in a number of states. 
However, among larger insurers in the seven states GAO analyzed, both 
the premium rates and the extent to which these rates have increased 
varied greatly (see figure). 

Multiple factors, including falling investment income and rising 
reinsurance costs, have contributed to recent increases in premium 
rates in our sample states. However, GAO found that losses on medical 
malpractice claims—which make up the largest part of insurers’ costs—
appear to be the primary driver of rate increases in the long run. And 
while losses for the entire industry have shown a persistent upward 
trend, insurers’ loss experiences have varied dramatically across our 
sample states, resulting in wide variations in premium rates. In 
addition, factors other than losses can affect premium rates in the 
short run, exacerbating cycles within the medical malpractice market. 
For example, high investment income or adjustments to account for 
lower than expected losses may legitimately permit insurers to price 
insurance below the expected cost of paying claims. However, because 
of the long lag between collecting premiums and paying claims, 
underlying losses may be increasing while insurers are holding premium 
rates down, requiring large premium rate hikes when the increasing 
trend in losses is recognized. While these factors may explain some 
events in the medical malpractice market, GAO could not fully analyze 
the composition and causes of losses at the insurer level owing to a 
lack of comprehensive data.

GAO’s analysis also showed that the medical malpractice market has 
changed considerably since previous hard markets. Physician-owned and/
or operated insurers now cover around 60 percent of the market, self-
insurance has become more widespread, and states have passed laws 
designed to reduce premium rates. As a result, it is not clear how 
premium rates might behave during future soft or hard markets.

What GAO Recommends: 

GAO is not recommending executive action. However, to further the 
understanding of conditions in current and future medical malpractice 
markets, Congress may wish to consider encouraging the National 
Association of Insurance Commissioners and state insurance regulators 
to identify and collect additional, mutually beneficial data necessary 
for evaluating the medical malpractice insurance market.

www.gao.gov/cgi-bin/getrpt?GAO-03-702.

To view the full product, including the scope
and methodology, click on the link above.
For more information, contact Richard J. Hillman at (202) 512-8678 or 
hillmanr@gao.gov.

[End of section]

Letter:

Results in Brief:

Background:

Both the Extent of Increases in Medical Malpractice Premium Rates and 
the Rates Themselves Varied across Specialties and States:

Multiple Factors Have Contributed to the Increases in Medical 
Malpractice Premium Rates:

The Medical Malpractice Insurance Market Has Changed since Previous 
Hard Markets:

Conclusions:

Matter for Congressional Consideration:

NAIC Comments and Our Evaluation:

Appendixes:

Appendix I: Scope and Methodology: 

Appendix II: Legal Summary: 

Appendix III: State Summaries: 

Market Description: 

Insurer Characteristics and Market Share: 

Rate Regulation: 

State Tort Laws: 

Appendix IV: GAO Contacts and Staff Acknowledgments: 

GAO Contacts: 

Acknowledgments: 

Related GAO Products: 

Tables: 

Table 1: Annual Yields for Selected Bonds, 1995–2002, and Average
Return on Investment Assets, 1997–2002, for the 15 Largest Writers of 
Medical Malpractice Insurance in 2001: 

Table 2: Hypothetical Example of How Premium Rates Change When the 
Return on Investments Falls: 

Figures: 

Figure 1: Premium Base Rates of the Largest Insurers in Seven
Selected States for Three Medical Specialties, 1992–2002:

Figure 2: Percentage Changes in Premium Base Rates of the Largest 
Medical Malpractice Insurers in Seven Selected States for Three 
Medical Specialties, 1999–2002: 

Figure 3: 2002 Medical Malpractice Insurance Premium Base Rates
of the Largest Insurers in Seven Selected States for Three
Medical Specialties: 

Figure 4: Inflation-Adjusted Paid and Incurred Losses for the
National Medical Malpractice Insurance Market, 1975–2001 (Using the 
CPI, in 2001 Dollars): 

Figure 5: Inflation-Adjusted Aggregate Paid Losses for Medical
Malpractice Insurers in Seven Selected States, 1975-2001
(Using the CPI, in 2001 Dollars): 

Figure 6: Inflation-Adjusted Aggregate Incurred Losses for Medical
Malpractice Insurers in Seven Selected States, 1975-2001
(Using the CPI, in 2001 Dollars): 

Figure 7: Net Profit or Loss as a Percentage of Net Worth for
Medical Malpractice Insurance Companies Nationwide, 1990–2001: 

Figure 8: Aggregate Incurred Losses as a Percentage of Premiums
Earned for Medical Malpractice Insurers in Seven Selected States, 
1975–2001: 

Figure 9: Incurred Losses as a Percentage of Premium Income for
Medical Malpractice Insurers and Property-Casualty Insurers 
Nationwide, 1976–2001: 

Figure 10: California: 

Figure 11: Florida: 

Figure 12: Minnesota: 

Figure 13: Mississippi: 

Figure 14: Nevada: 

Figure 15: Pennsylvania: 

Figure 16: Texas:

Abbreviations:

AMA: American Medical Association:

CAP/MPT: Cooperative of American Physicians/Mutual Protection Trust:

CDI: California Department of Insurance:

CPI: Consumer Price Index:

DOI: Department of Insurance:

FMA: Florida Medical Association:

FPIC: First Professionals Insurance Company:

JUA: Joint Underwriting Association:

MACM: Medical Assurance Company of Mississippi:

MIEC: Medical Insurance Exchange of California:

MIIX: Medical Inter-Insurance Exchange:

MLM: Medical Liability Monitor:

MMIC : Midwest Medical Insurance Company:

NAIC: National Association of Insurance Commissioners:

NMIC: Nevada Mutual Insurance Company:

NSCL: National Conference of State Legislatures:

PIAA : Physician Insurers Association of America:

PID: Pennsylvania Insurance Department:

PMSLIC: Pennsylvania Medical Society Liability Insurance  Company:

SCPIE: Southern California Physicians Insurance Exchange:

TMA: Texas Medical Association:

TMLT: Texas Medical Liability Trust:

Letter June 27, 2003:

Congressional Requesters:

Since the late 1990s, premium rates for medical malpractice insurance 
have increased dramatically for physicians in certain specialties and 
states.[Footnote 1] These increases have raised concerns that many 
physicians will no longer be able to afford malpractice insurance and 
may be forced to curtail or discontinue providing services. These 
concerns have been heightened as some large insurers, faced with 
declining profits, have either stopped selling medical malpractice 
insurance or reduced their operations in a number of states. But 
disagreement exists over the causes of increased premium rates and 
what, if anything, should be done in response to the current situation. 
For example, some have argued for tort reform as a means of lowering 
certain awards in medical malpractice lawsuits and advocate legislative 
changes at the state level designed to place a cap on such awards. 
Others have argued for medical reforms as a means of reducing the 
incidence of medical malpractice or for insurance reforms as a way to 
moderate premium rate increases.

In response to these concerns, you asked us to determine the reasons 
behind the recent increases in some medical malpractice insurance 
rates.[Footnote 2] Our specific objectives were to (1) describe the 
extent of the increases in medical malpractice insurance rates, (2) 
analyze the factors that have contributed to the increases, and (3) 
identify changes in the medical malpractice insurance market that may 
make the current period of rising premium rates different from earlier 
periods of rate hikes. We will also 
issue a related report that describes the effect of rising malpractice 
premiums on access to health care and related issues.[Footnote 3]

Recognizing that the medical malpractice market can vary considerably 
across states, as part of our review we judgmentally selected a sample 
of seven states--California, Florida, Minnesota, Mississippi, Nevada, 
Pennsylvania, and Texas--in order to conduct a more in depth review in 
each of those states. Our sample contains a mix of states based on the 
following characteristics: extent of any recent increases in premium 
rates, status as a "crisis state" according to the American Medical 
Association, presence of caps on noneconomic damages, state population, 
and aggregate loss ratios for medical malpractice insurers within the 
state. Except where noted otherwise, our analyses were limited to these 
states. Within each state, we spoke to one or both of the two largest 
and currently active medical malpractice insurers,[Footnote 4] the 
state insurance regulator, and the state association of trial 
attorneys. In six states, we spoke to the state medical association, 
and in five states, we spoke to the state hospital association. To 
examine the extent of increases in medical malpractice insurance rates 
in our sample states, we reviewed annual survey data collected by a 
private company.[Footnote 5] To analyze the factors contributing to the 
premium rate increases in our sample states as well as nationally, we 
reviewed data provided by medical malpractice insurers to state 
insurance regulators, the National Association of Insurance 
Commissioners (NAIC),[Footnote 6] 
and A.M. Best[Footnote 7] on insurers within our sample states as well 
as the 15 largest writers of medical malpractice insurance nationally 
in 2001 (whose combined market share nationally was approximately 64.3 
percent). We also spoke with officials from professional actuarial and 
insurance organizations and national trial attorney and medical 
associations and reviewed their testimonies before Congress. In 
addition, we analyzed data on medical malpractice claims collected by 
insurers, state regulators, and others in our sample states as well as 
nationally.

To analyze how the national medical malpractice insurance market has 
changed since previous periods of rising premium rates, we reviewed 
studies published by NAIC, reviewed state insurance regulations and 
tort laws, and spoke to the insurers and state insurance departments in 
our sample states. We also spoke to officials from national 
professional actuarial, legal, and insurance organizations. Appendix I 
contains a more detailed description of our methodology.

Results in Brief:

Since 1999, medical malpractice premium rates for physicians in some 
states have increased dramatically. Among the seven states that we 
analyzed, we found that both the extent of the increases and the 
premium levels varied greatly not only from state to state but across 
medical specialties and even among areas within states. For example, 
the largest writer of medical malpractice insurance in Florida 
increased premium rates for general surgeons in Dade County by 
approximately 75 percent from 1999 to 2002, while the largest insurer 
in Minnesota increased premium rates for the same specialty by about 2 
percent over the same period. The resulting 2002 premium rate quoted by 
the insurer in Florida was $174,300 a year, more than 17 times the 
$10,140 premium rate quoted by the insurer in Minnesota. In addition, 
the Florida insurer quoted a rate for general surgeons outside Dade 
County of $89,000 a year for the same coverage, approximately 51 
percent of the rate it quoted inside Dade County.

Multiple factors have contributed to the recent increases in medical 
malpractice premium rates in the seven states we analyzed. First, since 
1998 insurers' losses on medical malpractice claims have increased 
rapidly in some states. For example, in Mississippi the amount insurers 
paid annually on medical malpractice claims, or paid losses,[Footnote 
8] increased by approximately 142 percent from 1998 to 2001 after 
adjusting for inflation.[Footnote 9] We found that the increased losses 
appeared to be the greatest contributor to increased premium rates, but 
a lack of comprehensive data at the national and state levels on 
insurers' medical malpractice claims and the associated losses 
prevented us from fully analyzing the composition and causes of those 
losses. For example, data that would have allowed us to analyze claim 
severity at the insurer level on a state-by-state basis or determine 
how losses were broken down between economic and noneconomic damages 
were unavailable. Second, from 1998 through 2001 medical malpractice 
insurers experienced decreases in their investment income[Footnote 10] 
as interest rates fell on the bonds that generally make up around 80 
percent of these insurers' investment portfolios. While almost no 
medical malpractice insurers experienced net losses on their investment 
portfolios over this period, a decrease in investment income meant that 
income from insurance premiums had to cover a larger share of insurers' 
costs. Third, during the 1990s insurers competed vigorously for medical 
malpractice business, and several factors, including high investment 
returns, permitted them to offer prices that in hindsight, for some 
insurers, did not completely cover their ultimate losses on that 
business. As a result of this, some companies became insolvent or 
voluntarily left the market, reducing the downward competitive pressure 
on premium rates that had existed through the 1990s. Fourth, beginning 
in 2001 reinsurance rates for medical malpractice insurers also 
increased more rapidly than they had in:

the past, raising insurers' overall costs.[Footnote 11] In combination, 
all of these factors contribute to the movement of the medical 
malpractice insurance market through cycles of hard and soft markets--
similar to those experienced by the property-casualty insurance market 
as a whole--during which premium rates fluctuate.[Footnote 12] Cycles 
in the medical malpractice market tend to be more extreme than in other 
insurance markets because of the longer period of time required to 
resolve medical malpractice claims, and factors such as changes in 
investment income and reduced competition can exacerbate the 
fluctuations.

While the medical malpractice insurance market as a whole had 
experienced periods of rapidly increasing premium rates during previous 
hard markets in the mid-1970s and mid-1980s, the market has changed 
considerably since then. These changes are largely the result of 
actions insurers, health care providers, and states have taken to 
address increasing premium rates. Beginning in the 1970s and 1980s, 
insurers began selling "claims-made" rather than "occurrence-based" 
policies,[Footnote 13] enabling insurers to better predict losses for a 
particular year. Also in the 1970s, physicians, facing increasing 
premium rates and the departure of some insurers, began to form mutual 
nonprofit insurance companies. Such companies, which may have some cost 
and other advantages over commercial insurers, now comprise a 
significant portion of the medical malpractice insurance market. More 
recently, an increasing number of large hospitals and groups of 
hospitals or physicians have left the traditional commercial insurance 
market and begun to insure themselves in a variety of ways--for 
example, by self-insuring. While such arrangements can save money on 
administrative costs, hospitals and physicians insured through these 
arrangements assume greater financial responsibility for malpractice 
claims than they would under traditional insurance arrangements and 
thus may face a greater risk of insolvency. Finally, since periods of 
increasing premium rates during the mid-1970s and mid-1980s, all states 
passed at least some laws designed to reduce medical malpractice 
premium rates. Some of these laws are designed to decrease insurers' 
losses on medical malpractice claims, while others are designed to more 
tightly control the premium rates insurers can charge. These changes 
make it difficult to predict how medical malpractice premiums might 
behave during future hard and soft markets.

This report includes a matter that Congress may want to consider as it 
looks for ways to improve the ability of Congress, state insurance 
regulators, and others to analyze the current and future medical 
malpractice insurance markets. Specifically, Congress may want to 
consider encouraging NAIC and state insurance regulators to identify 
and collect additional data necessary to evaluate the 
frequency,[Footnote 14] severity,[Footnote 15] and causes of losses on 
medical malpractice claims.

We received comments on a draft of this report from NAIC's Director of 
Research. The Director generally agreed with the report's findings and 
matters for congressional consideration, and provided technical 
comments that we have incorporated as appropriate. The Director's 
comments are discussed in greater detail at the end of this letter.

Background:

Nearly all health care providers, such as physicians and hospitals, 
purchase insurance that covers expenses related to medical malpractice 
claims, including payments to claimants and legal expenses. The most 
common physician policies provide $1 million of coverage per incident 
and $3 million of coverage per year. Today the primary sellers of 
physician medical malpractice insurance are the physician-owned and/or 
operated insurance companies that, according to the Physician Insurers 
Association of America, insure approximately 60 percent of all 
physicians in private practice in the United States. Other health care 
providers may obtain coverage through commercial insurance companies, 
mutual coverage arrangements, or state-run insurance programs, or may 
self-insure (take responsibility for claims themselves). Most medical 
malpractice insurance policies offer claims-made coverage, which covers 
claims reported during the year in which the policy is in effect. A 
small and declining number of policies offer occurrence coverage, which 
covers all claims arising out of events that occurred during the year 
in which the policy was in effect.

Medical malpractice insurance operates much like other types of 
insurance, with insurers collecting premiums from policyholders in 
exchange for an agreement to defend and pay future claims within the 
limits set by the policy. Insurers invest the premiums they collect and 
use the income from those investments to reduce the amount of premium 
income that would have been required otherwise. Claims against a 
policyholder are recorded as expenses, or incurred losses, which are 
equal to the amount paid on those claims as well as the insurer's 
estimate of future losses on those same claims. The liability 
associated with the portion of these incurred losses that have not yet 
been paid by the insurer is collectively known as the insurer's loss 
reserve. In order to maintain financial soundness, insurers must 
maintain assets in excess of total liabilities--including loss reserves 
and reserves for premiums received but not yet earned[Footnote 16]--to 
make up what is known as the insurer's surplus. State insurance 
departments monitor insurers' solvency by tracking, among other 
measures, the ratio of total annual premiums to this surplus. Medical 
malpractice insurers generally attempt to keep their surplus 
approximately equal to their annual premium income.

Medical malpractice insurers establish premium base rates for 
particular medical specialties within a state and sometimes for 
particular geographic regions within a state. Insurers may also offer 
discounts or add surcharges for the particular characteristics of 
policyholders, such as claim histories or whether they participate in 
risk-management programs. The premium rates are based on anticipated 
losses on claims and related expenses, expected investment income, the 
need to build a surplus, and, for for-profit insurers, the desire to 
earn a reasonable profit for shareholders. In most states the insurance 
regulators have the authority to approve or deny proposed changes to 
premium rates.

For several reasons, accurately predicting losses on medical 
malpractice claims is difficult. First, according to a national insurer 
association we spoke with, most medical malpractice claims take an 
average of more than 5 years to resolve, including discovering the 
malpractice, filing a claim, determining (through settlement or trial) 
payment responsibilities, if any, and paying the claim.[Footnote 17] In 
addition, some claims may not be resolved for as long as 8 to 10 years. 
As a result, insurers often must estimate costs years in advance. 
Second, the range of potential losses is wide. Actuaries we spoke with 
told us that individual claims with similar characteristics can result 
in very different losses for the insurer, making it difficult to 
predict the ultimate cost of any single claim. Third, the predictive 
value of historical data is further limited by the often small pool of 
relevant policyholders. For example, a relevant pool of policyholders 
would be physicians practicing a particular specialty within a specific 
state and perhaps within a specific geographic area within that state. 
In smaller states, and for some of the less common but more risky 
specialties, this pool could be very small and provide only a limited 
amount of data that could be used to estimate future costs.

Medical malpractice insurance is regulated by state insurance 
departments and subject to state laws. That is, insurers selling 
medical malpractice insurance in a particular state are subject to that 
state's regulations for their operations within that state, and all 
claims within that state are subject to that state's tort laws. 
Insurance regulations can vary across states, creating differences in 
the way insurance rates are regulated. For example, one state insurance 
regulator we spoke with essentially let the insurance market determine 
appropriate rates, while another had an increased level of review, 
including approving specific company rates on a case-by-case basis. 
NAIC assists state insurance regulators in developing these regulations 
by providing guidance, model (or recommended) laws and guidelines, and 
information-sharing tools.

In response to concerns over rising premium rates, physicians, medical 
associations, and insurers have pushed for state and federal 
legislation that would, among other things, limit the amount of damages 
paid out on medical malpractice claims. A few states have passed 
legislation with such limitations over the past several years, and 
federal legislation is pending. On March 13, 2003, the House of 
Representatives passed the Help Efficient, Accessible Low-Cost, Timely 
Healthcare (HEALTH) Act of 2003, which includes, among other things, a 
limit on certain types of damages in medical malpractice claims. On 
March 12, 2003, a similar bill of the same name was introduced in the 
Senate, but as of June 2003, no additional action had been taken.

Both the Extent of Increases in Medical Malpractice Premium Rates and 
the Rates Themselves Varied across Specialties and States:

Beginning in 1999 and 2000, medical malpractice insurers in our seven 
sample states increased their premium rates[Footnote 18] for the 
physician specialties of general surgery, internal medicine, and 
obstetrics/gynecology faster than they had since at least 1992. These 
specialties were the only ones for which data were available, and 1992 
was the earliest year for which we could obtain comprehensive survey 
data.[Footnote 19] However, both the extent of these changes and the 
level of the premium rates insurers charged varied greatly across 
medical specialties, states, and even areas within states. From 1999 
through 2002, one large insurer raised rates more for internal medicine 
than for general surgery, while another raised rates 12 times more for 
general surgery than for internal medicine. Changes in premium base 
rates among some of the largest insurers in each state ranged from a 
reduction of about 9 percent for obstetricians and gynecologists 
insured by one California company to an increase of almost 170 percent 
for doctors in the 
same specialty in one area of Pennsylvania.[Footnote 20] At the same 
time, premium rates for the same amount of coverage for the same 
medical specialty varied by a factor of as much as 17 among states--
that is, the rate in one state was 17 times higher than the rate in a 
different state.

Premium Rates Have Grown Rapidly since 1998 for Certain Specialties in 
Some States:

As figure 1 shows, premium base rates varied across our seven sample 
states from 1992 to 1998 but for most insurers remained relatively 
flat. Beginning in 1999 and 2000, however, most of these insurers began 
increasing their rates in larger increments. Many of the increases were 
dramatic, ranging as high as 165 percent, although some rates remained 
flat. Figure 2 shows the percentage increase in premium rates for the 
largest insurers in our seven sample states from 1999 through 
2002.[Footnote 21] In the Harrisburg area of Pennsylvania, for example, 
the largest insurer increased premium base rates dramatically for three 
specialties: obstetrics/ gynecology (165 percent), general surgery (130 
percent), and internal medicine (130 percent). At the same time, the 
consumer price index (CPI) increased by 10 percent. However, in 
California and Minnesota, premium base rates for the same specialties 
rose between 5 and 21 percent and in some cases fell slightly. The 
variations in the changes in premium base rates among our sample states 
appears to be consistent with the changes in states outside our sample, 
with insurers in some states raising premium rates rapidly after 1999 
and insurers in other states raising them very little.

Figure 1: Premium Base Rates of the Largest Insurers in Seven Selected 
States for Three Medical Specialties, 1992-2002:

[See PDF for image]

Note: Premium rates shown are annual premium rates for a claims-made 
policy with a cap of $1 million per incident and $3 million per year.

[End of figure]

Figure 2: Percentage Changes in Premium Base Rates of the Largest 
Medical Malpractice Insurers in Seven Selected States for Three Medical 
Specialties, 1999-2002:

[See PDF for image]

[End of figure]

The Level of Premium Rates Also Varied across Specialties and States:

We found that premium rates quoted by insurers in our seven sample 
states varied across medical specialties and states. According to some 
of the insurers and actuaries we spoke with, the differences in rates 
reflect the costs associated with medical malpractice claims against 
physicians in particular specialties. Specialties with a high risk of 
large or frequent losses on medical malpractice claims will have higher 
premium rates. For example, in 2002 the largest medical malpractice 
insurer in Texas quoted a base rate for the same level of coverage of 
$92,000 to obstetricians and gynecologists, $71,000 to general 
surgeons, and $26,000 to internists. Figure 3 shows the premium rates 
quoted by the largest medical malpractice insurers in our sample states 
for these three specialties.[Footnote 22]

Premium rates quoted by insurers in our seven sample states for the 
same medical specialty also varied across states and geographic areas 
within states (see fig. 3). Some of the insurers and actuaries we spoke 
with told us that these variations also reflect differences in 
insurers' loss experiences in those venues. As figure 3 shows, the 
largest insurer in Florida quoted a premium base rate of $201,000 for 
obstetricians and gynecologists in Dade County, while the largest 
insurer in California quoted a premium based rate of $36,000 for 
similar physicians in northern California. Within Florida, the same 
large insurer quoted a premium base rate of $103,000 for obstetricians 
and gynecologists outside of Dade County--approximately 51 percent of 
the Dade County rate. Within Pennsylvania, the largest insurer quoted a 
premium base rate of $64,000 for doctors in Philadelphia--approximately 
83 percent more than the rate it quoted outside the city.

Figure 3: 2002 Medical Malpractice Insurance Premium Base Rates of the 
Largest Insurers in Seven Selected States for Three Medical 
Specialties:

[See PDF for image]

Note: Premium rates shown are annual premium base rates for coverage 
under a claims-made policy with a cap of $1 million per incident and $3 
million per year.

[End of figure]

Multiple Factors Have Contributed to the Increases in Medical 
Malpractice Premium Rates:

Insurers' losses, declines in investment income, a less competitive 
climate, and climbing reinsurance rates have all contributed to rising 
premium rates. First, among our seven sample states, insurers' losses 
have increased rapidly in some states, increasing the amount that 
insurers expect to pay out on future claims. Second, on the national 
level insurers' investment income has decreased, so that insurance 
companies must increasingly rely on premiums to cover costs. Third, 
some large medical malpractice insurers have left the market in some 
states because selling policies was no longer profitable, reducing the 
downward competitive pressure on premium rates that existed through 
most of the 1990s. Last, reinsurance rates for some medical malpractice 
insurers in our seven sample states have increased substantially, 
increasing insurers' overall costs. In combination, all the factors 
affecting premium rates and the availability of medical malpractice 
insurance contribute to the medical malpractice insurance cycle of hard 
and soft markets. While predicting the length, size and turning points 
of a cycle may be impossible, it is clear that the relatively long 
period of time required to resolve medical malpractice claims makes the 
cycles more extreme in this market than in other insurance markets.

Increased Losses on Claims Are the Primary Contributor to Higher 
Medical Malpractice Premium Rates:

Like premium increases, annual paid losses and incurred losses for the 
national medical malpractice insurance market began to rise more 
rapidly beginning in 1998.[Footnote 23] After adjusting for inflation, 
we found that the average annual increase in paid losses from 1988 to 
1997 was approximately 3.0 percent but that this rate rose to 8.2 
percent from 1998 through 2001. Inflation-adjusted incurred losses 
decreased by an average annual rate of 3.7 percent from 1988 to 1997 
but increased by 18.7 percent from 1998 to 2001. Figure 4 shows paid 
and incurred losses for the national medical malpractice market from 
1975 to 2001, adjusted for inflation.

Paid and incurred losses give different pictures of an insurer's loss 
experience, and examining both can help provide a better understanding 
of an insurer's losses.[Footnote 24] Paid losses are the cash payments 
an insurer makes in a given year, irrespective of the year in which the 
claim giving rise to the payment occurred or was reported. Most 
payments made in any given year are for claims that were reported in 
previous years. In contrast, incurred losses in any single year reflect 
an insurer's expectations of the amounts that will be paid on claims 
reported in that year. Incurred losses for a given year will also 
reflect any adjustments an insurer makes to the expected amounts that 
must be paid out on claims reported during previous years. That is, as 
more information becomes available on a particular claim, the insurer 
may find that the original estimate was too high or too low and must 
make an adjustment. If the original estimate was too high, the 
adjustment will decrease incurred losses, but if the original estimate 
was too low, the adjustment will increase them.

Incurred losses are the largest component of medical malpractice 
insurers' costs. For the 15 largest medical malpractice insurers in 
2001--whose combined market share nationally was approximately 64.3 
percent--incurred losses (including both payments to plaintiffs to 
resolve claims and the costs associated with defending claims) 
comprised, on average, around 78 percent of the insurers' total 
expenses. Because insurers base their premium rates on their expected 
costs, their anticipated losses will therefore be the primary 
determinant of premium rates.

Figure 4: Inflation-Adjusted Paid and Incurred Losses for the National 
Medical Malpractice Insurance Market, 1975-2001 (Using the CPI, in 2001 
Dollars):

[See PDF for image]

[End of figure]

The recent increases in both paid and incurred losses among our seven 
sample states varied considerably, with some states experiencing 
significantly higher increases than others. From 1998 to 2001, for 
example, paid losses in Pennsylvania and Mississippi increased by 
approximately 70.9 and 142.1 percent, respectively, while paid losses 
in California and Minnesota increased by approximately 38.7 and 8.7 
percent, respectively (see fig. 5).[Footnote 25] Because paid losses in 
any single year reflect primarily claims reported during previous 
years, these losses may not be representative of claims that were 
reported during the year the losses were paid.

Figure 5: Inflation-Adjusted Aggregate Paid Losses for Medical 
Malpractice Insurers in Seven Selected States, 1975-2001 (Using the 
CPI, in 2001 Dollars):

[See PDF for image]

[End of figure]

From 1998 to 2001, aggregate incurred losses increased by large amounts 
in almost all of our seven sample states. As shown in figure 6, the 
highest rates of increase in incurred losses over that period were 
experienced by insurers in Mississippi (197.5 percent) and Pennsylvania 
(97.2 percent). Even in California and Minnesota, states with lower 
paid losses from 1998 through 2001, insurers experienced increases in 
incurred losses of approximately 40.5 and 73.2 percent, respectively, 
over the same period. As noted above, incurred losses in any single 
year reflect insurers' expectations of future paid losses associated 
with claims reported in the current year--that is, claims that will be 
paid, on average, over the next 3 and one-half years (according to one 
industry association). And because insurers' incurred losses have 
increased recently, insurers are expecting their paid losses to 
increase over the next several years.

Figure 6: Inflation-Adjusted Aggregate Incurred Losses for Medical 
Malpractice Insurers in Seven Selected States, 1975-2001 (Using the 
CPI, in 2001 Dollars):

[See PDF for image]

[End of figure]

Increased Losses Lead to Higher Premium Rates:

According to actuaries and insurers we spoke with, increased paid 
losses raise premium rates in several ways. First, higher paid losses 
on claims reported in current or previous years can increase insurers' 
estimates of what they expect to pay out on future claims. Insurers 
then raise premium rates to match their expectations. In addition, 
large losses (particularly paid losses) on even one or a few individual 
claims can make it harder for insurers to predict the amount they might 
have to pay on future claims. Some insurers and actuaries we spoke with 
told us that when losses on claims are hard to predict, insurers will 
generally adopt more conservative expectations regarding losses--that 
is, they will assume losses will be toward the higher end of a 
predicted range of losses. Further, large losses on individual claims 
can raise plaintiffs' expectations for damages on similar claims, 
ultimately resulting in higher losses across both claims that are 
settled and those that go to trial. As described above, this tendency 
in turn can lead to higher expectations of future losses and thus to 
higher premium rates. Finally, an increase in the percentage of claims 
on which insurers must make payments can increase the amount that 
insurers expect to pay on each policy, resulting in higher premium 
rates. That is, insurers expecting to pay out money on a high 
percentage of claims may charge more for all policies in order to cover 
the expected increases.

Comprehensive Data on the Composition and Causes of Increased Losses 
Were Lacking:

A lack of comprehensive data at the national and state levels on 
insurers' medical malpractice claims and the associated losses 
prevented us from fully analyzing both the composition and causes of 
those losses at the insurer level.[Footnote 26] For example, 
comprehensive data that would have allowed us to fully analyze the 
severity of medical malpractice claims at the insurer level on a state-
by-state basis did not exist. To begin with, data submitted by insurers 
to NAIC on the number of claims reported to insurers are not broken out 
by state. Rather, insurers that operate in a number of states report 
the number of claims for all their medical malpractice insurance 
policies nationwide. Also, while NAIC does collect data that can be 
used to measure the severity of claims paid in a single year (number of 
claims per state), NAIC began this effort only in 2000. As a result, we 
could not gather enough data to examine trends in the severity of paid 
claims from 1998 to 2002 at the insurer level. Similarly, comprehensive 
data did not exist that would have allowed us to analyze claim 
frequency on a state-by-state basis. As noted above, data that insurers 
submit to NAIC on the number of claims reported were not broken out by 
state prior to 2000. In addition, insurers do not submit information on 
the number of policies in effect or the number of health care providers 
insured. Finally, medical associations we spoke with in our sample 
states had not compiled accurate data on the number of physicians 
practicing within those states. As a result, we could not analyze 
changes in the frequency of medical malpractice claims in our sample 
states at the insurer level.

Data that would have allowed us to analyze how losses were divided 
between settlements and trial verdicts or between economic and 
noneconomic damages were also not available. First, insurers do not 
submit information to NAIC on the portion of losses paid as part of 
settlements and the portion paid as the result of a trial verdict, and 
no other comprehensive source of such information exists. However, all 
eight insurers and one of the trial lawyers' associations we spoke with 
provided certain estimates about claims. The estimates of three 
insurers on the percentage of claims resulting in trial verdicts ranged 
from 5 to 7 percent. The estimates of four insurers and 1 state trial 
lawyers' association of the percentage of trial verdicts being decided 
in favor of the insured defendant ranged from 70 to 86 percent. The 
estimates of four insurers and one state trial lawyers' association of 
the portion of claims resulting in payment to the plaintiff ranged from 
14 to 50 percent. Second, no comprehensive source of information exists 
on the breakdown of losses between economic damages, such as medical 
costs and lost wages, and noneconomic damages, such as compensation for 
pain and suffering. Several of the insurers and trial lawyers' 
associations we spoke with noted that settlement amounts are not 
formally divided between these two types of damages and that 
consistent, comprehensive information on trial judgments is not 
collected. Furthermore, while judgment amounts obtained at trial may be 
large, several of the insurers we spoke with said that they most often 
do not pay amounts beyond a policyholder's policy limits.[Footnote 27] 
Data on the final amounts insurers pay out on individual judgments are 
not collected, although they are reported in the aggregate as part of 
paid losses in insurers' financial statements.

While losses on medical malpractice claims increase as the cost of 
medical care and the value of lost wages rise, losses in some states 
have far outpaced such inflation. Insurance, legal, and medical 
industry officials we spoke with suggested a number of potential causes 
for such increases. These potential causes included a greater societal 
propensity to sue; a "lottery mentality," where a lawsuit is seen as an 
easy way to get a large sum of money; a sicker, older population; 
greater expectations for medical care because of improved technology; 
and a reduced quality of care and the breakdown of the doctor-patient 
relationship owing, for example, to factors such as the increasing 
prevalence of managed care organizations. While we could not analyze 
such potential causes for increased losses, understanding them would be 
useful in developing strategies to address increasing medical 
malpractice premium rates. That is, because losses on claims have such 
a profound effect on premium rates, understanding the reasons those 
losses have increased could make it easier to devise actions to control 
the rise in premium rates.[Footnote 28]

Medical Malpractice Insurers' Investment Income Has Decreased:

State laws restrict medical malpractice insurers to conservative 
investments, primarily bonds. In 2001, the 15 largest writers of 
medical malpractice insurance in the United States [Footnote 29] 
invested, on average, around 79 percent of their investment assets in 
bonds, usually some combination of U.S. Treasury, municipal, and 
corporate bonds. While the performance of some bonds has surpassed that 
of the stock market as a whole since 2000, annual yields on selected 
bonds since 2000 have decreased steadily since then (table 1).

Table 1: Annual Yields for Selected Bonds, 1995-2002, and Average 
Return on Investment Assets, 1997-2002, for the 15 Largest Writers of 
Medical Malpractice Insurance in 2001:

5-Year U.S. Treasury securities; 1995: 6.38; 1996: 6.18; 1997: 6.22; 
1998: 5.15; 1999: 5.55; 2000: 6.16; 2001: 4.56; 2002: 3.82.

10-Year U.S. Treasury securities; 1995: 6.57; 1996: 6.44; 1997: 6.35; 
1998: 5.26; 1999: 5.65; 2000: 6.03; 2001: 5.02; 2002: 4.61.

5-Year AAA-rated municipal bonds; 1995: 4.57; 1996: 4.41; 1997: 4.34; 
1998: 3.97; 1999: 4.18; 2000: 4.72; 2001: 3.63; 2002: 3.16.

10-Year AAA-rated municipal bonds; 1995: 5.04; 1996: 4.91; 1997: 4.75; 
1998: 4.31; 1999: 4.62; 2000: 4.97; 2001: 4.28; 2002: 4.05.

5-Year AAA-rated corporate bonds; 1995: 6.71; 1996: 6.49; 1997: 6.52; 
1998: 5.61; 1999: 6.17; 2000: 6.96; 2001: 5.24; 2002: 4.45.

10-Year AAA-rated corporate bonds; 1995: 6.93; 1996: 6.77; 1997: 6.66; 
1998: 5.74; 1999: 6.38; 2000: 7.09; 2001: 5.92; 2002: 5.42.

Average return on investment assets for 15 largest insurers; 1995: [A]; 
1996: [A]; 1997: 5.6; 1998: 5.5; 1999: 5.2; 2000: 5.6; 2001: 5.0; 2002: 
4.0[B].

Source: GAO analysis of data from A.M. Best, the Federal Reserve, and 
the Bond Market Association.

[A] Data for 1995 and 1996 were not readily available.

[B] Complete information was not available for the same companies in 
2002. The 2002 average return on investment was estimated based on the 
average bond yield and the average ratio of the bond yield to the 
insurer's return on investment.

[End of table]

We analyzed the average investment returns of the 15 largest medical 
malpractice insurers of 2001 and found that the average return fell 
from about 5.6 percent in 2000 to an estimated 4.0 percent in 2002. 
However, none of the companies experienced a net loss on investments at 
least through 2001, the most recent year for which such data were 
available. Additionally, almost no medical malpractice insurers overall 
experienced net investment losses from 1997 to 2001.

Medical malpractice insurers are required by state insurance 
regulations to reflect expected investment income in their premium 
rates. That is, insurers are required to reduce their premium rates to 
consider the income they expect to earn on their investments. As a 
result, when insurers expect their returns on investments will be high, 
as returns were during most of the 1990s, premium rates can remain 
relatively low because investment income covers a larger share of 
losses on claims. Conversely, when insurers expect their returns on 
investments will be lower--as returns have been since around 2000--
premium rates rise in order to cover a larger share of losses. During 
periods of relatively high investment income, insurers can lose money 
on the underwriting portion of their business yet still make a profit. 
That is, losses from medical malpractice claims and the associated 
expenses may exceed premium income, but income from investments can 
still allow the insurer to operate profitably. Insurers are not allowed 
to increase premium rates to compensate for lower-than-expected returns 
on past investments but must consider only prospective income from 
investments.

None of the insurers that we consulted regarding this issue told us 
definitively how much the decreases in investment income had increased 
premium rates. But we can make a rough estimate of the relationship 
between return on investment and premium rates. When investment income 
decreases, holding all else constant, income from premium rates must 
increase by an equal amount in order for the insurer to maintain the 
same overall level of income. Thus the total amount of investment 
assets relative to premium income determines how much rates need to 
rise to compensate for lost investment income. Table 2 presents a 
hypothetical example. An insurer has $100,000 in investment assets and 
in the previous year received $25,000 in premium income, for a ratio of 
investment assets to premium income of 4 to 1. If the return on 
investments drops 1 percentage point and all else remains constant, the 
insurer must raise premium rates by 4 percent in order to compensate 
for the reduced investment income. If the return on investments drops 
by 2 percentage points, premium rates must rise by 8 percent to 
compensate.

Table 2: Hypothetical Example of How Premium Rates Change When the 
Return on Investments Falls:

(a) Total investment assets; Example 1: $100,000; Example 2: $100,000; 
Example 3: $100,000.

(b) Original total premium income; Example 1: $25,000; Example 2: 
$25,000; Example 3: $25,000.

(c) Percentage point drop in return on investments; Example 1: 1%; 
Example 2: 2%; Example 3: 3%.

(d) Drop in investment income [(a) x (c)]; Example 1: $1,000; Example 
2: $2,000; Example 3: $3,000.

Total premium income required to make up for drop in investment income 
[(b) + (d)]; Example 1: $26,000; Example 2: $27,000; Example 3: 
$28,000.

Percentage increase in premium income required [(d) / (b) x 100]; 
Example 1: 4%; Example 2: 8%; Example 3: 12%.

Source: GAO analysis.

Note: The examples given assume that all else holds constant and that 
the insurer must obtain the full amount of additional funds required in 
the following year, even though the insurer would earn interest on 
those funds and thus would not need to increase premium rates by the 
full amount. Such an assumption may overstate the extent to which 
premium rates must be increased. The examples also do not take into 
account the fact that insurers look prospectively at trends in interest 
rates when estimating their anticipated investment income. By not 
taking into account a downward trend in interest rates, such as the one 
that has existed since 2000, our examples may understate the needed 
increase.

[End of table]

This relationship can be applied to the 15 largest medical malpractice 
insurers--countrywide--from 2001. Data show that in 2001 the insurers' 
total investment assets were, on average, around 4.5 times as large as 
the amount of premium income they earned for that year. Applying the 
relationship established above and holding other factors constant, a 
drop of 1 percentage point in return on investments would translate 
into roughly a 4.5 percent increase in premium rates.[Footnote 30] As a 
result, if nothing else changed, the approximately 1.6 percentage point 
drop in the return on investments these insurers experienced from 2000 
through 2002 would have resulted in an increase in premium rates of 
around 7.2 percent over the same 2-year period.

Downward Pressure on Premium Rates Has Decreased as Profitability Has 
Declined:

Since 1999, the profitability of the medical malpractice insurance 
market as a whole has declined--even with increasing premium rates--
causing some large insurers to pull out of this market, either in 
certain states or nationwide. Because fewer insurers are offering this 
insurance, there is less price competition and thus less downward 
pressure on premium rates. According to some industry and regulatory 
officials in our seven sample states, price competition during most of 
the 1990s kept premium rates from rising between 1992 and 1998, even 
though losses generally did rise. In some cases, rates actually fell. 
For example, during this period premium rates for obstetricians and 
gynecologists covered by the largest insurer in Florida--a state where 
these physicians are currently seeing rapid premium rate increases--
actually decreased by approximately 3.1 percent. Some industry 
participants we spoke with told us that, in hindsight, premium rates 
charged by some insurers during this period may have been lower than 
they should have been and, after 1998, began rising to a level more in 
line with insurers' losses on claims. Some industry participants also 
pointed out that this pricing inadequacy was masked to some extent by 
insurers' adjustments to expected losses on claims reported during the 
late 1980s as well as their high investment income. For many insurers 
the incurred losses associated with the policies sold during the late 
1980s turned out to be higher than the actual losses for the same 
policies, resulting in high levels of reserves. During the 1990s, as 
insurers eliminated these redundant reserves by adjusting their current 
loss reserves for these previous overestimates, current calendar year 
incurred losses fell and reported income increased. These adjustments, 
together with relatively high levels of investment income, allowed 
insurers to keep premium rates flat and still remain profitable.

Selling Medical Malpractice Insurance Has Become Less Profitable:

Beginning in the late 1990s, medical malpractice insurers as a whole 
began to see their profits fall. Figure 7 shows the return on surplus-
-also called return on equity--for the medical malpractice insurance 
industry as a whole. Profitability began declining faster in 1998 and 
in 2001 dropped considerably even as premium rates were increasing in 
many states, resulting in a negative rate of return, or loss. Some of 
the factors pushing premium rates upward were also factors in insurers' 
declining profitability: higher losses on medical malpractice claims, 
higher reinsurance costs, and falling investment income.

Figure 7: Net Profit or Loss as a Percentage of Net Worth for Medical 
Malpractice Insurance Companies Nationwide, 1990-2001:

[See PDF for image]

[End of figure]

Medical malpractice insurers in some of our sample states have 
experienced particularly low levels of profitability since around 1998 
(see fig. 8). The loss ratio reported here is the ratio of incurred 
losses, not including other expenses (often referred to as loss 
adjustment expenses) related to resolving those claims, to the amount 
of premiums earned in a given year. Loss ratios above 100 percent 
indicate that an insurer has incurred more losses than premium 
payments, a sign of declining profitability. Loss ratios in all seven 
sample states have increased since 1998, and except for California, all 
had loss ratios of more than 100 percent for 2001.

Figure 8: Aggregate Incurred Losses as a Percentage of Premiums Earned 
for Medical Malpractice Insurers in Seven Selected States, 1975-2001:

[See PDF for image]

Note: Incurred losses used in this figure do not include other expenses 
related to resolving claims or loss adjustment expenses.

[End of figure]

As Profits Have Fallen, Insurers Have Left the Medical Malpractice 
Market:

This declining profitability has caused some large insurers either to 
stop selling medical malpractice policies altogether or to reduce the 
number they sell. For example, beginning in 2002 the St. Paul 
Companies--previously the second-largest medical malpractice insurer 
in the United States--stopped writing all medical malpractice insurance 
because of declining profitability. In 2001, St. Paul had sold medical 
malpractice insurance in every state and was the largest or second-
largest seller in 24 states. St. Paul was not alone. Other large 
insurers have also stopped selling medical malpractice insurance in 
since 1999: PHICO Insurance Company, which sold insurance primarily in 
six states, including Florida, Pennsylvania, and Texas; MIIX Insurance 
Company, which sold insurance primarily in five states, including New 
Jersey and Pennsylvania; and Reciprocal of America, which sold 
insurance primarily in six states, including Alabama, Mississippi, and 
Virginia. Other insurers reduced the number of states in which they 
sold medical malpractice insurance: SCPIE Indemnity Company, which in 
March 2003 essentially stopped selling insurance outside of California, 
and First Professionals Insurance Company, which has said that 
beginning in 2003 it will essentially stop selling insurance outside of 
Florida.

When a large insurer leaves a state insurance market, the supply of 
medical malpractice insurance decreases, and the remaining insurers may 
not need to compete as much on the basis of price. In addition, the 
remaining insurers are limited in the amount of insurance they can 
supply to fill the gap, because state insurance regulations limit the 
amount of insurance they can write relative to their surplus (the 
amount by which insurers' assets exceed their liabilities). For mutual, 
nonprofit insurers, increasing the surplus can be a slow process, 
because surplus must generally be built through profits or by obtaining 
additional funds from policyholders. Commercial insurers can obtain 
funds through capital markets, but even then, convincing investors to 
invest funds in medical malpractice insurance when profits are falling 
can be difficult.

Remaining Insurers Have Increased Prices to Reflect Expected Losses:

According to industry participants and observers, as the competitive 
pressures on premium rates decreased, it appears that insurers were 
able to more easily and more quickly raise premium rates to a level 
more in line with their expected losses. That is, absent competitive 
pressure that may have caused insurers to keep premium rates at lower 
levels, which in hindsight were perhaps too low for the ultimate losses 
the insurers would have to pay, it appears that insurers were able to 
raise premium rates to match their loss expectations. As noted earlier, 
losses increased to a great extent in some states, and thus some 
insurers may have increased premium rates dramatically.

While it appears clear that a reduction in price competition has 
allowed insurers to more easily and more quickly increase premium rates 
to a level more in line with insurers' expected losses, we identified 
at least three factors that seem to suggest that these premium rates 
are not inconsistent with expected losses. First, if the higher premium 
rates were above what was justified by insurers' expected losses, 
profitability would be increasing. But profits are not increasing, 
indicating that insurers are not charging and profiting from 
excessively high premium rates. Second, according to some industry 
participants we spoke with, physician-owned insurers have little 
incentive to overcharge their policyholders because those insurers 
generally return excess earnings to their policyholders in the form of 
dividends. Third, in most states the insurance regulators have the 
authority to deny premium rate increases they deem excessive. While the 
information that state regulators require insurers to submit as 
justification for premium rate increases varies across states, in 
general it includes data on expected losses.

Reinsurance Premium Rates Have Increased:

A further reason for recent increases in medical malpractice premium 
rates in our seven sample states was that the cost of reinsurance for 
these insurers has also increased, increasing the total expenses that 
premium and other income must cover. Insurers in general purchase 
reinsurance, or excess loss coverage, to protect themselves against 
large unpredictable losses. Medical malpractice insurers, particularly 
smaller insurers, depend heavily on reinsurance because of the 
potential high payouts on medical malpractice claims.

Reinsurance industry officials and medical malpractice insurers we 
spoke with told us that reinsurance premium rates have increased for 
two reasons. First, reinsurance rates overall have increased as a 
result of reinsurers' losses related to the terrorist attacks of 
September 11, 2001. Second, reinsurers have seen higher losses from 
medical malpractice insurers and have raised rates to compensate for 
the increased risk associated with providing reinsurance to the medical 
malpractice market. Some insurers and industry participants told us 
that reinsurance premium rates had risen substantially since 1998, with 
the increases ranging from 50 to 100 percent. Other insurers told us 
that in order to keep their reinsurance premium rates down, they 
increased the dollar amount on any loss at which reinsurance would 
begin, essentially increasing the deductible. Thus, while reinsurance 
rates may not have increased, the amount of risk the medical 
malpractice insurers carry did. One insurer estimated that while its 
reinsurance rates had increased approximately 50 percent from 2000 to 
2002, this increase had resulted in only a 2 to 3 percent increase in 
medical malpractice premium rates.

The Medical Malpractice Insurance Market Moves through Hard and Soft 
Insurance Markets:

All of the factors affecting premium rates and availability contribute 
to the length and amplitude of the medical malpractice insurance cycle. 
Like other property-casualty insurance markets, the medical malpractice 
market moves through cycles of "hard" and "soft" markets. Hard markets 
are generally characterized by rapidly rising premium rates, tightened 
underwriting standards, narrowed coverage, and often by the departure 
of some insurers from the market. In the medical malpractice market, 
some market observers have characterized the period from approximately 
1998 to the present as a hard market. (Previous hard markets occurred 
during the mid-1970s and mid-1980s.) Soft markets are characterized by 
slowly rising premium rates, less stringent underwriting standards, 
expanded coverage, and strong competition among insurers. The medical 
malpractice market from 1990 to 1998 has been characterized as a soft 
market. According to a series of studies sponsored and published by 
NAIC in 1991, such cycles have been present in the property-casualty 
insurance market since at least 1926, and until the mid-1970s lasted 
for an average of approximately 6 years from the peak of one hard 
market to the next.[Footnote 31] However, the cycle that began at the 
peak of the hard market in 1975 lasted for around 10 years. The current 
cycle has lasted for around 17 years--since 1985--and it is not yet 
clear that the current hard market has peaked.

Cycles in the Medical Malpractice Market Tend to Be Volatile:

The medical malpractice insurance market appears to roughly follow the 
same cycles as the overall property-casualty insurance market, but the 
cycles tend to be more volatile--that is, the swings are more extreme. 
We analyzed the swings in insurance cycles for the medical malpractice 
market and for the entire property-casualty insurance markets using 
annual loss ratios based on incurred losses (see fig. 9). Our analysis 
showed that annual loss ratios for medical malpractice insurers tended 
to swing higher or lower than those for property-casualty insurers as a 
whole, reflecting more extreme changes in insurers' expectations. 
Because premium rates are based largely on insurers' expectations of 
losses, premium rates will fluctuate as well.

Figure 9: Incurred Losses as a Percentage of Premium Income for Medical 
Malpractice Insurers and Property-Casualty Insurers Nationwide, 1976-
2001:

[See PDF for image]

[End of figure]

The medical malpractice insurance market is more volatile than the 
property-casualty insurance market as a whole because of the length of 
time involved in resolving medical malpractice claims and the 
volatility of the claims themselves. Several years may pass before 
insurers know and understand the profits and losses associated with 
policies sold in a single year. As a result, insurers may not know the 
full effects of a change in an underlying factor, such as losses or 
return on investments, for several years. So while insurers in other 
markets that do not have protracted claims resolutions can adjust loss 
estimates and premium rates more quickly to account for a change in an 
underlying factor, medical malpractice insurers may not be able to make 
adjustments for several years. In the interim, medical malpractice 
insurers may unknowingly be under-or over-pricing their policies.

When insurers do fully understand the effects of a change in an 
underlying factor, they may need to make large adjustments in loss 
estimates and premium rates. As a result, premium rates in the medical 
malpractice insurance market may move more sharply than premium rates 
in other lines of property-casualty insurance. For example, if insurers 
have been unknowingly overestimating their losses and overpricing their 
policies, as some insurers told us happened during the late 1980s, 
large liabilities build up to cover the losses. When the insurers 
realize their estimates have been too high, they must reduce those 
liabilities to reflect their losses accurately. Reducing liabilities 
also reduces incurred losses and therefore increases insurers' income, 
allowing insurers to charge lower premium rates even in the face of 
increased losses and still maintain profitable operations--a point some 
insurers made about the 1990s. But when the liability account has been 
reduced sufficiently and income is no longer increasing as a result of 
this adjustment, insurers may need to raise premium rates to stay 
profitable.

The competition that can exist during soft markets and periods of high 
investment income can further exacerbate swings in premium rates. As 
noted earlier, competition among insurers can put downward pressure on 
premium rates, even to the point at which the rates may, in hindsight, 
become inadequate to keep an insurer solvent. When the insurance market 
hardens, some insurers may leave the market, removing the downward 
pressure on premium rates and allowing insurers to raise premium rates 
to the level that would have existed without such competition. Because 
competition may have kept rates low, the resulting increase in premium 
rates that accompanies a transition to a hard market may be greater 
than it would have been otherwise.

According to some industry experts, periods of high investment income 
can bolster the downward pressure that exists during soft markets. That 
is, high investment income can contribute to the increased 
profitability of an insurance market. This profitability can, in turn, 
cause insurers to compete for market share in order to take advantage 
of that profitability, thereby forcing premium rates even lower. In 
addition, according to these industry experts, high investment income 
allows insurers to keep premium rates low for long periods of time, 
even in the face of increasing losses, because investment income can be 
used to replace premium income, allowing insurers to meet expenses. But 
if interest rates drop at the same time the market hardens (and reduced 
interest rates can be a contributor to the movement to hard market), 
insurers may have to increase premium rates much more in a shorter 
period of time than they would have if investment income had not 
allowed premium rates to remain lower to begin with.

Predicting and Moderating the Cycle is Difficult:

While the medical malpractice insurance market will likely move through 
more soft and hard markets in the future, predicting when such moves 
might occur or the extent of premium rate changes is virtually 
impossible. For example, the timing and extent of the unexpected 
changes in the losses that some researchers believe are responsible for 
hard markets are virtually impossible to predict. In addition, as we 
have seen, many factors affect premium rates, and it is just as 
difficult to predict the extent of any future changes these factors 
might undergo. While interest rates may be high during soft markets, it 
is not possible to predict how much higher they might be in the future 
and thus what effect they might have on premium rates. Predicting 
changes in losses on medical malpractice claims would be even harder, 
given the volatility of such losses. Further, some of the factors 
affecting premium rates, such as losses and competition, vary across 
states, and the effect of soft or hard markets on premium rates in one 
state could not be generalized to others. Finally, other conditions 
affecting premium rates have changed since earlier hard and soft 
markets, limiting our ability to make accurate comparisons between past 
and future market cycles.

Similarly, agreement does not exist on whether or how insurance cycles 
could be moderated. The NAIC studies mentioned above noted that the 
most likely primary causes of insurance cycles--changes in interest 
rates and losses--were not subject to direct insurer or regulatory 
control.[Footnote 32] In addition, the studies also observed that 
underpricing by insurers during soft markets likely increases the 
severity of premium rate increases during the next hard market. But 
they did not agree on the question of using regulation to prevent such 
swings in premium rates. Such regulation could be difficult, for two 
reasons. First, because losses on medical malpractice claims are 
volatile and difficult to predict, regulators could have difficulty 
determining the appropriate level of premium rates to cover those 
losses. In addition, restricting premium rate increases during 
hardening markets could hurt insurer solvency and cause some insurers 
to withdraw from a market with an already declining supply of 
insurance.

The Medical Malpractice Insurance Market Has Changed since Previous 
Hard Markets:

The medical malpractice insurance market as a whole has changed 
considerably since the hard markets of the mid-1970s and mid-1980s. 
These changes have taken place over time and have been the result 
primarily of actions insurers, health care providers, and state 
regulators have taken to address rising premium rates. For example, 
insurers have moved from occurrence-based to claims-made policies, 
physicians have formed mutual nonprofit insurance companies that have 
come to dominate the market, hospitals and groups of hospitals or 
physicians have increasingly chosen to self-insure, and states have 
passed laws designed to slow the increase in medical malpractice 
premium rates.

Beginning in the 1970s, Insurers Began Selling Claims-Made Rather Than 
Occurrence-Based Policies:

In order to more accurately predict losses and set premium rates, in 
the mid-1970s most medical malpractice insurers began to change the 
type of insurance policy they offered to physicians from occurrence 
based to claims made. As we have noted, claims-made policies cover 
claims reported during the year the policy is in effect, while 
occurrence-based policies cover claims arising out of events that 
occurred during the year in which the policy was in effect. Because 
claims-made policies cover only reported claims, insurers can better 
estimate the payouts they will have to make in the future. Occurrence-
based policies do not provide such certainty, because they leave 
insurers liable for claims related to the incidents that occurred 
during a given year, including those not yet reported to the insurer.

Claims-made policies can create difficulties for physicians needing or 
wanting to change insurers, however, because the physician rather than 
the insurer retains the risk of claims that have not yet been reported 
to the insurer. However, most companies today offer separate policies 
providing coverage for claims resulting from incidents that may have 
occurred but were not reported before the physician switched companies. 
The vast majority of policies in existence today are claims-made 
policies. In each of the seven states we studied, for example, the 
leading insurer's policies were predominantly (if not exclusively) 
claims-made. This change in the type of policy sold means that any 
changes to premium rates during future hard or soft markets may differ 
from such changes in previous such markets.

Beginning in the Mid-1970s, Groups of Physicians Joined Together to 
Form Mutual Insurance Companies:

Faced with a surge in the frequency and severity of claims, many of the 
for-profit insurers left the medical malpractice insurance market in 
the mid-1970s. At the time, medical malpractice insurance was only a 
small portion of most of the insurers' overall business, so many 
companies chose simply to discontinue their medical malpractice lines. 
However, this market exodus led to a crisis of availability for 
physicians who wanted or needed professional liability insurance. In 
response to this unmet demand, physicians, often in connection with 
their state medical societies, joined together to form physician-owned 
insurance companies. Initially, physicians often needed to contribute 
capital in addition to their premiums so that the companies would meet 
state capitalization requirements.

These new physician-owned insurance companies differed from existing 
commercial carriers in several ways. First, the physician-owned 
companies wrote predominantly claims-made policies, which, as 
previously discussed, allowed the insurers to more accurately predict 
losses and set premium rates. Second, in their initial years the new 
companies themselves enjoyed significant short-term cost savings over 
commercial companies. Most medical malpractice claims take several 
years to be resolved, and the policies offered by the physician-owned 
companies covered only future incidents of malpractice, so the 
companies had no existing claims that needed to be paid immediately. 
The commercial companies' occurrence-based policies continued to 
provide coverage for malpractice that had occurred before the new 
physician-owned companies began offering policies. Thus the physician-
owned companies would not incur the same level of obligations as the 
existing carriers for several years, allowing the physicians to pay an 
amount similar to the commercial premium and use much of that money as 
capital contributions to surplus. Physician-owned companies have 
several other advantages. To begin with, physician-owned companies have 
a cost advantage because they do not need to provide shareholders with 
profits. In addition, the physician-owned companies may have some 
underwriting advantages over the for-profit entities, such as an 
intimate knowledge of local doctors and hospitals and the legal customs 
and climate. Finally, several insurers told us that these physician-
owned companies may have a different management philosophy than for-
profit companies, one that places greater emphasis on risk management 
and thus lowers the incidence of claims. This philosophy may also 
extend to defending claims more aggressively than traditional insurers.

Physician-owned and/or operated[Footnote 33] insurance companies have 
grown to dominate the medical malpractice insurance market, despite the 
fact that most of them have not had the same access to the traditional 
capital markets as for-profit insurers and therefore have had to build 
up their surplus through premiums and capital contributions. Although 
several physician-owned and/or operated insurance companies have 
expanded their geographic presence and lines of insurance in the last 
decade, most of these companies write insurance primarily in one state 
or a few states and usually sell only medical malpractice liability 
insurance. Further, many of the companies that had previously expanded 
have now retreated to their original area and insurance line. As a 
result of this continuing change in the composition of the medical 
malpractice insurance market, changes in premium rates in the next soft 
market may be different from previous markets, when commercial carriers 
dominated the market.

A Growing Number of Individual Hospitals and Hospital and Physician 
Groups Have Begun Self-Insuring:

Over the past several years, an increasing number of individual 
hospitals and consortia of hospitals and physicians have begun to self-
insure[Footnote 34] in a variety of ways. Officials from the American 
Hospital Association estimated that 40 percent of its member hospitals 
are now self-insured. In states such as Florida that allow individual 
physicians to self-insure, individual health care providers are also 
insuring themselves. Other hospitals and groups of physicians are 
joining alternative risk-sharing mechanisms, such as risk retention 
groups[Footnote 35] or trusts.[Footnote 36] Although some hospitals and 
physicians have used these alternatives in the past, some industry 
experts we spoke to said that the increasing movement to such 
arrangements under the current market conditions indicates that some 
health care providers are having difficulty obtaining insurance in the 
traditional market.

While these arrangements could save money on the administrative costs 
of insurance, they do not change the underlying costs of claims. 
Hospitals and physicians insured through these arrangements often 
assume greater financial responsibility for malpractice than they would 
under traditional insurance arrangements and thus face a potentially 
greater risk of insolvency. Although self-insured hospitals generally 
use excess loss insurance for claims that exceed a certain amount, the 
hospitals must pay the entire amount up to that threshold. Rather than 
a known number of smaller payments on an insurance policy, the 
hospitals risk an unknown number of potentially larger payments. And 
the threshold for excess loss insurance is rising in a number of 
states. In Nevada, for example, some hospitals' excess loss insurance 
used to cover claim amounts in excess of $1 million but now covers 
amounts above $2 million, leaving self-insured hospitals with $1 
million more exposure per claim. Self-insured physicians, who have no 
other coverage for large losses, risk their personal assets with every 
claim.

Hospitals and physicians are not the only ones more at risk under these 
alternative arrangements. Claimants seeking compensation for their 
injuries may have more difficulty obtaining payments from some of these 
alternative entities and self-insured hospitals and physicians, for 
several reasons. First, these entities and the self-insured are subject 
only to limited public oversight, as state insurance departments do not 
regulate them. Further, these entities do not participate in the state-
run safety nets that pay claims for insolvent insurance companies 
(state guaranty funds). Once such a risk-sharing consortium fails, 
claimants may have no other recourse but to try to enforce judgments 
against physicians personally. But enforcing a judgment against a 
physician personally is generally more difficult than obtaining payment 
under an insurance policy from a solvent insurance company.

Data on these forms of insurance are sparse, so the extent to which 
physicians and hospitals are using such arrangements is difficult to 
measure. For example, NAIC and state insurance department data do not 
include information on self-insurance or on most alternative risk-
sharing vehicles. In addition, one industry group has estimated that 
the information available from A.M. Best, a recognized industry data 
source, accounts for less than half the costs resulting from medical 
malpractice claims.[Footnote 37] Like the growth of physician-owned 
insurance companies, however, the growth of such forms of insurance 
since the previous soft market may affect the extent to which premium 
rates change in the next soft market.

All States Have Passed Laws Designed to Reduce the Growth of Medical 
Malpractice Premium Rates:

Since the medical malpractice crisis of the mid-1970s, all states have 
enacted some change in their laws in order to reduce upward pressure on 
medical malpractice premiums. Most of these changes are designed to 
reduce insurers' losses by limiting the number of claims filed, the 
size of awards and settlements, and the time and costs associated with 
resolving claims. Other changes are designed to help health care 
providers by more directly controlling premium rates. Appendix II 
contains a more detailed explanation of some of the types of legal 
changes that some states have made, and appendix III contains more 
detail on the relevant laws in our seven sample states.

Most of the state laws aimed at controlling premium rates attempt to 
reduce insurer losses related to medical malpractice claims. Many of 
these laws have similar provisions, the most controversial being the 
limitation, or cap, on subjective, nonmonetary losses such as pain and 
suffering (noneconomic damages). Several insurers and medical 
associations argue that such a cap will help control losses on medical 
malpractice claims and therefore moderate premium rate increases. But 
several trial lawyer and consumer rights associations argue that such 
caps will limit consumers' ability to collect appropriate compensation 
for their injuries and may not reduce medical malpractice premium 
rates.

A cap on noneconomic damages may decrease insurers' losses on claims by 
limiting the overall amount paid out by insurance companies, especially 
since noneconomic damages can be a substantial portion of losses on 
some claims. Further, such a limit may also decrease the number of 
claims brought against health care providers. Plaintiffs' attorneys are 
usually paid based on a percentage of what the claimant recovers, and 
according to some trial attorneys we spoke with, attorneys may be less 
likely to represent injured parties with minor economic damages if 
noneconomic damages are limited.

Caps on noneconomic losses may have effects beyond reducing insurers' 
costs. In theory, for example, after the frequency and severity of 
losses have been reduced, insurers will decrease premium rates as well. 
Insurers may also be better able to predict what they will have to pay 
out in noneconomic damages because they can more easily estimate 
potential losses, reducing the uncertainty that can give rise to 
premium rate increases. Insurers reported that economic damages 
(generally medical costs and lost wages), are more predictable than 
noneconomic damages, which are generally meant to compensate for pain 
and suffering and thus are very difficult to quantify.

In addition to attempting to decrease losses on medical malpractice 
claims, two of our sample states have passed laws directly affecting 
premium rates and insurance regulations. In a 1988 referendum, 
California passed Proposition 103, which includes, among other things, 
a 20 percent rollback of prices[Footnote 38] for all property-casualty 
insurers (including medical malpractice insurers), a 1-year moratorium 
on premium rate increases, and a provision granting consumers the right 
to challenge any commercial insurance rate increases greater than 15 
percent. In 1995, Texas passed legislation that required many insurance 
carriers, including medical malpractice insurers, to reduce rates to a 
level deemed by the Texas Department of Insurance to be acceptable, 
allowing for a reasonable profit. Texas passed the legislation in 
conjunction with changes to Texas' tort system. The legislators wanted 
to avoid creating a windfall for insurers and believed that the 
companies would not lower premium rates on their own until the impact 
of the changes to the tort system could be actuarially determined.

Interested parties debate the impact these various measures may have 
had on premium rates. However, a lack of comprehensive data on losses 
at the insurance company level makes measuring the precise impact of 
the measures impossible. As noted earlier, in the vast majority of 
cases, existing data do not categorize losses on claims as economic or 
noneconomic, so it is not possible to quantify the impact of a cap on 
noneconomic damages on insurers' losses. Similarly, it is not possible 
to show exactly how much a cap would affect claim frequency or claims-
handling costs. In addition, while most claims are settled and caps 
apply only to trial verdicts, some insurers and actuaries told us that 
limits on damages would still have an indirect impact on settlements by 
limiting potential damages should the claims go to trial. But given the 
limitations on measuring the impact of caps on trial verdicts, an 
indirect impact would be even more difficult to measure. Further, state 
laws differ dramatically, so comparing their impact is difficult. For 
example, limitations on damages can vary drastically in amount, type of 
damages covered, and how the limitations apply. Some states have caps 
of $250,000 on noneconomic damages, while other states have caps up to 
several times that amount. Moreover, some dollar limits change over 
time--for instance, because they are indexed to inflation--while others 
do not. Some states apply the cap to all damages, including economic 
damages, and some apply the cap "per occurrence" of malpractice. That 
is, the total amount collected by all parties injured by an act of 
medical malpractice cannot exceed the cap, regardless of how many 
physicians, hospitals, or other health care providers may be partially 
liable for the injuries. In contrast, for example, Nevada's recently 
passed limitations on damages allow multiple plaintiffs to collect the 
full limit from any number of responsible defendants.

The filing and resolution of medical malpractice claims is regulated, 
to a great extent, by states' tort and insurance laws. Changes to such 
laws can thus have a great effect on both the frequency and severity of 
those claims, which in turn can affect premium rates. Because many 
states have made changes to these laws, it is difficult to predict the 
extent to which premium rates might change in future markets.

Conclusions:

Multiple factors have combined to increase medical malpractice premium 
rates over the past several years, but losses on medical malpractice 
claims appear to be the primary driver of increased premium rates in 
the long term. Such losses are by far the largest component of insurer 
costs, and in the long run, premium rates are set at a level designed 
to cover anticipated costs. However, the year-to-year increase in 
premium rates can vary substantially because of perceived future losses 
and a variety of other factors, including investment returns and 
reinsurance rates. Moreover, the market for medical malpractice 
insurance is not national, but depends on the varying framework of 
insurance, legal, and health care structures within each of the states. 
As a result, both the extent and the effects of changes in losses and 
other insurance-related factors on premium rates also vary by state.

While losses aggregated for the industry as a whole have shown a 
relatively consistent upward trend over time, the loss experience of 
any single company is likely to vary from year to year and to increase 
more rapidly in some years than in others. At the same time, because of 
the long lag between collecting premium income and paying on claims, 
premium rates for the next year must be high enough to cover claims 
that will be reported that year, the majority of which will be paid 
over the next 3 to 5 years. And due to the volatility of the ultimate 
payouts on medical malpractice claims, it is difficult for insurers to 
predict the amount of those payouts with great certainty. As a result, 
changes in current losses can have large effects on perceived or 
estimated future losses and consequently on premium rates, because if 
insurers underestimate what will be needed to pay claims, they risk not 
only future profits but potentially their solvency.

However, factors other than losses--such as changes in investment 
income or the competitive environment--can also affect premium rate 
decisions in the short run. These factors can either amplify or reduce 
the effect of losses on premium rates. For example, high expected 
returns on investment may legitimately permit insurers to price 
insurance below the expected cost of paying claims. But incorrect 
projections of continuing high returns could cause insurers to continue 
to hold prices down for too long, even though underlying losses may be 
rising. When such factors affect most or all medical malpractice 
insurers, the result appears as a period of stable or falling premium 
rates or a period of sharply rising rates. When they alternate, these 
periods may describe the soft and hard phases of the medical 
malpractice insurance cycle.

Based on available data, as well as our discussions with insurance 
industry participants, a variety of factors combined to explain the 
malpractice insurance cycle that produced several years of relatively 
stable premium rates in the 1990s followed by the severe premium rate 
increases of the past few years. To begin with, insurer losses 
anticipated in the late 1980s did not materialize as projected, so 
insurers went into the 1990s with reserves and premium rates that 
proved to be higher than the actual losses they would experience. At 
the same time, insurers began a decade of high investment returns. This 
emerging profitability encouraged insurers to expand their market 
share, as both the downward adjustment of loss reserves and high 
investment returns increased insurers' income. As a result, insurers 
were generally able to keep premium rates flat or even reduce them, 
although the medical malpractice market as a whole continued to 
experience modestly increasing underlying losses throughout the decade. 
Finally, by the mid-to late 1990s, as excess reserves were exhausted 
and investment income fell below expectations, insurers' profitability 
declined. Regulators found that some insurers were insolvent, with 
insufficient reserves and capital to pay future claims. In 2001, one of 
the two largest medical malpractice insurers, which sold insurance in 
almost every state, determined that medical malpractice was a line of 
insurance that was too unpredictable to be profitable over the long 
term. Alternatively, some companies decided that, at a minimum, they 
needed to reduce their size and consolidate their markets. These 
actions, taken together, reduced the availability of medical 
malpractice insurance, at least in some states, further exacerbating 
the insurance crisis. As a result of all of these factors, insurers 
continuing to sell medical malpractice insurance requested and received 
large rate increases in many states. It remains to be seen whether 
these increases will, as occurred in the 1980s, be found to have 
exceeded those necessary to pay for future claims losses, thus 
contributing to the beginning of the next insurance cycle.

While this explanation accounts for observed events in the market for 
medical malpractice insurance, it does not provide answers to other 
important questions about the market for medical malpractice insurance, 
including an explanation of the causes of rising losses over time. The 
data currently collected do not permit many of the analyses that would 
provide answers to these questions. This lack of data is due, in part, 
to the nature of NAIC's and states' regulatory reporting requirements 
for all lines of insurance, which focus primarily on the information 
needed to evaluate a company's solvency. Most insurance regulators do 
not collect the data that would allow analyses of the severity and 
frequency of medical malpractice claims for individual insurer 
operations within specific states. Moreover, insurers are generally not 
required to submit to NAIC or state regulators data that would show how 
insurers losses are divided between settlements and trial verdicts or 
between economic and noneconomic damages. Finally, the increasing use 
of insurance or self-insurance mechanisms that are not subject to state 
or NAIC reporting requirements further complicates a complete analysis. 
While more complete insurance data would help provide better answers to 
questions about how the medical malpractice insurance market is 
working, other data would be equally important for analyzing the 
underlying causes of rising malpractice losses and associated costs. 
These data relate to factors outside the insurance industry, such as 
policies, practices, and outcomes in both the medical and legal arenas. 
However, collecting and analyzing such data were beyond the scope of 
this report.

Matter for Congressional Consideration:

Health care providers have suffered through three medical malpractice 
insurance "crises" in the past 30 years. Each instance has generated 
competing claims about the extent of the problem, the causes, and the 
possible solutions. In each instance, a lack of necessary data has 
hindered and continues to hinder the efforts of Congress, state 
regulators, and others to carefully analyze the problem and the 
effectiveness of the solutions that have been tried. Because of the 
potential for future crises, and in order to facilitate the evaluation 
of legislative remedies put in place by various levels of government, 
Congress may want to consider taking steps to ensure that additional 
and better data are collected. Specifically, Congress may want to 
consider encouraging NAIC and state insurance regulators to identify 
the types of data that are necessary to properly evaluate the medical 
malpractice insurance market--specifically, the frequency, severity, 
and causes of losses--and begin collecting these data in a form that 
would allow appropriate analysis. Included in this process would be an 
analysis of the costs and benefits of collecting such data, as well as 
the extent to which some segments of this market are not captured by 
current data-gathering efforts. Such data could serve the interests of 
state and federal governments and allow both to better understand the 
causes of recurring crises in the medical malpractice insurance market 
and formulate the most appropriate and effective solutions.

NAIC Comments and Our Evaluation:

NAIC's Director of Research provided us with oral comments on a draft 
of this report. The Director generally agreed with the report's 
findings, conclusions, and matter for congressional consideration. 
Specifically, the Director agreed that the medical malpractice markets 
are not national in nature and vary widely with regard to their 
insurance markets, regulatory framework, legal environment, and health 
care structures. Furthermore, the Director stated that the medical 
malpractice insurance industry has shown an upward trend in losses over 
time and that this rise can be attributed to a variety of causes that 
are difficult to measure or quantify. The Director also said that he 
does not believe that excess profits by insurers are in evidence.

The Director told us that NAIC is working on a study of the medical 
malpractice marketplace that he hopes will be ready for distribution in 
the summer of 2003. The Director stated that NAIC, like GAO, had 
identified many data limitations that make the study of this line of 
insurance difficult. As a result, the Director generally agreed with 
our matter for congressional consideration that Congress consider 
encouraging NAIC and state regulators to identify and collect 
additional information that could be used to properly evaluate the 
medical malpractice insurance market. The Director stated that while 
such efforts would require some additional resources, the costs would 
not be prohibitive and the efforts would provide needed information. 
The Director also provided technical comments, which we have 
incorporated into the report as appropriate.

As agreed with your offices, unless you publicly announce the contents 
of this report earlier, we plan no further distribution until 30 days 
from the report date. At that time, we will send copies of this report 
to the Chairmen of the Senate Committee on Governmental Affairs and its 
Subcommittee on Oversight of Government Management, the Federal 
Workforce, and the District of Columbia; the Chairman of the House 
Committee on the Judiciary; and the Chairman of the House Committee on 
Energy and Commerce. We will also send copies of this report to other 
interested congressional committees and members, and we will make 
copies available to others on request. In addition, the report will be 
available at no charge on the GAO Web site at http://www.gao.gov.

If you or your staffs have any questions regarding this report, please 
contact me or Lawrence Cluff at (202) 512-8678. Additional contributors 
are acknowledged in appendix IV.

Richard J. Hillman, 
Director, Financial Markets and Community Investment:

Signed by Richard J. Hillman: 

List of Requesters:

The Honorable Richard J. Durbin 
Ranking Minority Member 
Subcommittee on Oversight of Government Managment, the Federal 
Workforce, and the District of Columbia 
Committee on Governmental Affairs 
United States Senate:

The Honorable John Conyers, Jr. 
Ranking Minority Member 
Committee on the Judiciary 
House of Representatives:

The Honorable John D. Dingell 
Ranking Minority Member 
Committee on Energy and Commerce 
House of Representatives:

The Honorable Marion Berry 
The Honorable Joseph M. Hoeffel 
The Honorable Alan B. Mollohan 
The Honorable Dennis Moore 
The Honorable Nick J. Rahall II 
The Honorable Max Sandlin 
House of Representatives:

[End of section]

Appendixes:

Appendix I: Scope and Methodology:

Recognizing that the medical malpractice market can vary considerably 
across states, we judgmentally selected a sample of seven states in 
order to conduct a more in-depth review in each of those states. Except 
where otherwise noted, our analyses were limited to these states. We 
selected our sample so that we would have a mix of states based on the 
following characteristics: extent of recent increases in premium rates, 
status as an American Medical Association crisis state, presence of 
caps on noneconomic damages, state population, and aggregate loss ratio 
for medical malpractice insurers within the state. The states we 
selected were California, Florida, Minnesota, Mississippi, Nevada, 
Pennsylvania, and Texas. Within each state we spoke to one or both of 
the two largest and currently active sellers of medical malpractice 
insurance, the state insurance regulator, and the state association of 
trial attorneys. In six states, we spoke to the state medical 
association, and in five states, we spoke to the state hospital 
association. Due to time constraints, we did not speak to the medical 
or hospital associations in Texas or the hospital association in 
Florida. We used information obtained from these organizations to help 
answer each of our objectives and, as outlined below, also performed 
additional work for each objective.

To examine the extent of increases in medical malpractice insurance 
rates for the largest insurers in our sample states, we reviewed annual 
survey data on medical malpractice premium rates collected by a private 
data collection company. While individual insurers determine whether to 
respond to the survey, we believe the data to be representative for the 
three medical specialties for which the company collects data--internal 
medicine, general surgery, and obstetrics/gynecology--because of both 
the number of insurers responding to the survey and the states 
represented by them. The premium rates collected in the survey are base 
rates, which do not reflect discounts or additional charges by 
insurers, so the actual premium rates charged by insurers can vary from 
the premium rates collected in the survey. We could not determine the 
extent to which the actual premium rates charged varied from the base 
rates, but among the insurers we spoke with, the actual premium rates 
charged in 2001 and 2002 ranged from about 50 to 100 percent of the 
base rates. We did not test the reliability of the survey data.

To analyze the factors contributing to the premium rate increases in 
our sample states and other states, we examined data from state 
insurance regulators, the National Association of Insurance 
Commissioners (NAIC), A.M. Best, the Securities and Exchange 
Commission, and the Physician Insurers Association of America on 
insurers in our sample states as well as the medical malpractice 
insurance market as a whole. We did not verify the reliability of these 
data. Where possible, we obtained data from 1975 to the present. As 
noted earlier in this report, comprehensive, reliable data that would 
have allowed us to quantify the effect of individual factors on medical 
malpractice premium rates did not exist. We also reviewed relevant 
academic studies and industry guidance. In addition, we spoke with 
officials from the insurers and state insurance departments in our 
sample states, as well as professional actuarial and insurance 
organizations. To analyze factors that were likely to vary among 
states--losses on medical malpractice claims, reinsurance rates, and 
competition among insurers--we reviewed data for one or both of the two 
largest and active medical malpractice insurers in our samples states. 
We also reviewed aggregate data on losses for all insurers in each 
state as well as the U.S. medical malpractice insurance market as a 
whole. To analyze factors that were likely to be common among medical 
malpractice insurers in all states--investment income and the presence 
of an insurance cycle--we reviewed either A.M Best data for the 15 
largest medical malpractice insurers as of 2001 (whose combined market 
share nationally was approximately 64.3 percent), or NAIC data for all 
medical malpractice insurers reporting data to NAIC. Also as noted 
earlier in this report, data and scope limitations prevented us from 
fully analyzing the factors behind increased losses from medical 
malpractice claims.

To analyze how the national medical malpractice insurance market has 
changed since previous periods of rising premium rates, we reviewed 
studies published by NAIC; analyzed insurance industry data compiled by 
NAIC and A.M. Best; reviewed tort laws across all states and state 
insurance regulations; spoke with insurers and state insurance 
regulators in our sample states; and spoke with officials from national 
professional actuarial, insurance, legal, consumer rights, medical, and 
hospital organizations.

We conducted our work from July 2002 through June 2003 in accordance 
with generally accepted government auditing standards.

[End of section]

Appendix II: Legal Summary:

Each state's tort laws generally govern the way in which medical 
malpractice claims or lawsuits are resolved. As discussed in this 
report, most state laws aimed at controlling premium rates attempt to 
reduce insurer losses related to medical malpractice claims. Although 
these laws take many different forms, they usually have at least some 
of the provisions summarized in this appendix. State courts have dealt 
differently with these kinds of provisions, and some states have found 
that some of these kinds of provisions are unconstitutional. The 
provisions summarized in this appendix are not the only ones that might 
impact the treatment of medical malpractice claims in states' tort 
systems.

Limits on Damages. Damages in medical malpractice cases usually consist 
of two categories, economic damages and noneconomic damages. (Although 
punitive damages can be available in cases of gross negligence and 
outrageous conduct of the health care provider, juries rarely award 
punitive damages in medical malpractice cases.) Economic damages 
generally consist of past and future monetary damages, such as lost 
wages or medical expenses. Noneconomic damages generally consist of 
past and future subjective, non-monetary loss, including pain, 
suffering, marital losses, and anguish. Although some states have 
limits on the total amount of damages recoverable in a medical 
malpractice suit, most states with limits, as well as pending federal 
legislation, have emphasized a limit only on noneconomic damages. As 
discussed in this report, limitations on damages can vary drastically 
in amount, type of damages covered, and application.

As mentioned in this report, limitations on damages can impact 
frequency of lawsuits as well. Plaintiffs' attorneys are usually paid 
based on a percentage of what the claimant recovers, and according to 
some trial attorneys we spoke to, attorneys may be less likely to 
represent an injured party with minor economic damages if noneconomic 
damages are limited. One consumer rights group told us that suits with 
limited economic damages are typical in cases where the plaintiff is 
not working and does not have substantial costs of future medical care.

Evidence of Collateral Source Payments. At common law, or without any 
legislative intervention, a plaintiff would be able to recover all 
damages sustained from a liable defendant, even if the plaintiff were 
going to receive money from other sources, called "collateral sources," 
like health insurance policies or Social Security. Some states have 
modified this common law rule with statutes that allow defendants to 
show that the claimant is going to receive funds from collateral 
sources that will compensate the claimant for damages he or she is 
attempting to collect from the defendant. These statutes authorize, to 
various extents, decreasing the defendant's liability by the amount the 
claimant will receive from other sources. In the state summaries in 
appendix III, if a state has not modified the common law rule regarding 
collateral sources, the chart will say "no modification.":

Joint and Several Liability. Joint and several liability is the common 
law rule that a plaintiff can collect the entire judgment from any 
liable defendant, regardless of how much of the harm that defendant's 
actions caused. Some states have eliminated joint and several 
liability, making each defendant responsible for only the amount or 
share of damage he or she caused the plaintiff. Other states have 
eliminated joint and several liability only for noneconomic damages. 
Some states have eliminated joint and several liability for defendants 
responsible for less than a specified percentage of the plaintiff's 
harm; for example, if a defendant is less than 50 percent responsible, 
that defendant might need to pay only for that percentage of the 
plaintiff's damages.

Attorney Contingency Fees. Most plaintiff attorneys are paid on a 
contingency fee basis. A contingency fee is one in which the lawyer, 
instead of charging an hourly fee for services, agrees to accept a 
percentage of the recovery if the plaintiff wins or settles. Some 
states have laws that limit attorney contingency fees. For example, in 
California a plaintiff's attorney can collect up to 40 percent of the 
first $50,000 recovered, 33 percent of the next $50,000 recovered, 25 
percent of the next $500,000 recovered, and 15 percent of any amount 
exceeding $600,000. Provisions that decrease attorneys' financial 
incentives to accept cases could decrease the number of attorneys 
willing to take the cases. These limits were based on the belief that 
they would lead to more selective screening by plaintiffs' attorneys to 
ensure that the claims filed had merit. In the state summaries in 
appendix III, if a state does not have limits in place specifically for 
attorneys in medical malpractice cases, the chart will say "no 
modification.":

Statute of Limitations. The amount of time a plaintiff has to file a 
claim is known as the "statute of limitations." Some states have 
reduced their statutes of limitations on medical malpractice claims. 
This decrease could limit the number of cases filed by claimants. 
Special time requirements for minors are not noted on the summaries in 
appendix III.

Periodic Payment of Damages. Defendants traditionally pay damages in a 
lump sum, even if they are being collected for future time periods, 
such as future medical care or future lost wages. However, some states 
allow or require certain damages to be paid over time, such as over the 
life of the injured party or period of disability, either through the 
purchase of an annuity or through self-funding by institutional 
defendants. Some insurers we spoke with said that purchasing annuities 
can reduce insurers' costs, and that periodic payments better match 
damage payments to future medical costs and lost earnings incurred by 
injured parties, assuring that money will be available to the injured 
party in the future. A consumer rights group we spoke with told us 
that, because periodic payments stop at the death of an injured party, 
there may be unsatisfied medical bills at the time of the injured 
party's death.

Expert Certification. Many states require that medical experts certify 
in one way or another the validity of the claimant's case. These 
statutes are designed in part to keep cases without merit, also known 
as frivolous cases, out of court. Expert certification requirements 
also have the potential to get as many relevant facts out in the open 
as early as possible, so that settlement discussions are fruitful and 
it becomes unnecessary to take as many cases to trial, thus decreasing 
the claims-handling costs of the case.

Arbitration. Some states have enacted arbitration statutes that address 
medical malpractice claims specifically. Some of these statutes require 
that the arbitration agreement meets standards that are designed to 
alert the patient to the fact that he is waiving a jury trial through 
the use of a specific size of font, or by specifying the precise 
wording that must be contained in the agreement. Although most courts 
have held that medical malpractice claims can properly be submitted to 
arbitration, litigation involving the arbitration statutes has involved 
issues such as whether the patient knew he was waiving the right to a 
jury trial, whether the patient who agrees to arbitration had 
appropriate bargaining strength, and whether third parties have 
authority to bind others to arbitration.

By providing an option for arbitration, parties can avoid the larger 
expense of taking claims to court. However, some industry experts said 
that these arbitration provisions may not be binding and may result in 
the losing party deciding to take the case to court in any event, so 
arbitration can simply increase expenses without affecting the ultimate 
resolution of the dispute.

Advanced Notice of Claim. Advanced-notice-of-claim provisions require 
claimants to give defendants some period of time, 90 days for example, 
prior to filing suit in court. Some insurers and plaintiffs' attorneys 
we spoke with said that this requirement aids plaintiffs and defendants 
in resolving meritorious claims outside of the court system and allows 
plaintiffs' attorneys to obtain relevant records to determine whether a 
case has merit. However, another group we spoke to said that the 
advanced notice of claim provision in that group's state was 
ineffective.

Bad Faith Claims. As mentioned in this report, some insurers we spoke 
with told us that they can be liable for amounts beyond an insurance 
policy's limits, if the policyholder requests the insurer to settle 
with the plaintiff for an amount equal to or less than the policy 
limit, and the insurer takes the case to trial, loses, and a judgment 
is entered in an amount greater than the policy limits. Industry 
experts we spoke to said that, under those circumstances, the insurer 
could be liable for acting in "bad faith." In some states, like Nevada, 
this bad faith claim can be brought only by the insured physician; that 
is, the physician can seek payment from the insurance company if the 
physician has paid a plaintiff beyond a policy's limits. In contrast, 
in Florida, the plaintiff can sue a physician's insurer directly for 
the insurer's alleged improper conduct in medical malpractice cases. 
The difficulty of establishing that an insurer acted in bad faith 
varies according to state law. Insurers in three of our study states--
Texas, California, and Florida--said that bad faith litigation was a 
substantial issue in their states.

[End of section]

Appendix III: State Summaries:

This appendix describes the specific medical malpractice insurance 
environment in each the seven sample states we evaluated for this 
report. (See figs.10-16.):

Market Description:

* Typical Coverage Type and Limit. This section summarizes the type of 
medical malpractice insurance coverage typically issued in the state, 
as well as the standard coverage limits of these policies. Coverage 
limits can range from $100,000/$300,000 to up to $2 million /$6 
million. The lower number is the amount the insurer will pay per claim 
and the higher number is the total the insurer will pay in aggregate 
for all claims during a policy period. There are several types of 
insurance coverage available.

* Occurrence-based insurance provides coverage for claims that arise 
from incidents that occur during the time the insurance policy is in 
force, even if the policy is not continued. Claims that arise from 
incidents occurring during the policy period that are reported after 
the policy's cancellation date are still covered in the future.

* Claims-made insurance provides coverage for claims that arise from 
incidents that occur and are reported during the time the insurance 
policy is in force.

* Prior acts coverage is a supplement to a claims-made policy that can 
be purchased from a new carrier when changing carriers. Prior acts 
coverage covers incidents that occurred prior to the switch to a new 
carrier but had not been previously reported.

* Tail coverage is an option available from a former carrier to 
continue coverage for those dates that the claims-made coverage was in 
effect.

* Regional Differences. This section notes any major regional 
differences in premium rates quoted by insurers within the state using 
the base rate for general surgery as a comparison. The Medical 
Liability Monitor annually surveys providers of medical malpractice 
insurance to obtain their premium base rates for three specialties: 
internal medicine, obstetrics/gynecology, and general surgery. In the 
state summaries, descriptions of regional differences in premium rates 
are based on Medical Liability Monitor information.

* Frequency and Severity. This section describes the extent to which 
insurers and state regulators we spoke with believe frequency and 
severity are changing in each state. Frequency is usually defined as 
the number of claims per number of doctors, counting doctors in 
different specialties as more or fewer doctors depending on the risk 
associated with the specialty. Severity is the average loss to the 
insurer per claim.

Insurer Characteristics and Market Share:

* Insurer Characteristics. This section describes the various types of 
insurers present in each of the states. In addition to traditional 
commercial insurance companies, the following entities or arrangements 
can provide liability protection:

* Physician insurer associations or physician mutuals are physician 
owned and operated insurance companies that provide medical liability 
insurance.

* Reciprocals are similar to mutuals, except that an attorney-in-fact 
often manages the reciprocal.

* Risk retention groups are insurance companies owned by policyholders. 
Risk retention groups are organized under federal law--the Liability 
Risk Retention Act of 1986.

* Trusts are a form of self-insurance and consist of segregated 
accounts of health care entities that estimate liabilities and set 
aside funds to cover them.

* Market Share. This section describes the medical malpractice market 
in each of the states. Recent changes in the market are also noted in 
this section.

* Joint Underwriting Association (JUA). This section details whether a 
state has created a JUA and the extent of its use. A JUA is a state-
sponsored association of insurance companies formed with statutory 
approval from the state for the express purpose of providing certain 
insurance to the public.

Rate Regulation:

This section describes the regulatory scheme employed by each state. 
Statutory requirements generally provide that insurance rates be 
adequate, not excessive, and not unfairly discriminatory. The degree of 
regulation of medical malpractice insurance rates varies from state to 
state. States may have "prior approval" requirements in which all rates 
must be filed with the insurance department before use and must be 
either approved or disapproved by the department of insurance. Other 
states have "file and use" provisions in which the insurers must file 
their rates with the state's insurance department; however, the rates 
may be used without the department's prior approval.

State Tort Laws:

This section identifies key components of each state's efforts to 
address the medical malpractice insurance situation by targeting ways 
in which medical malpractice claims are processed through the court 
system. The following legal provisions are summarized for each state:

* Limits on Damage Awards:

* Collateral Source Rule:

* Periodic Award Payments:

* Pretrial Expert Certification:

* Attorney Contingency Fees:

* Joint and Several Liability:

* Statute of Limitations:

* Bad Faith Claims:

Appendix II has a description of each of these provisions, in addition 
to other provisions that are not summarized herein, but that might 
impact medical malpractice claims. For the information on state 
provisions in appendix III, we relied upon a summary of state tort laws 
compiled by the National Conference of State Legislatures (NCSL) in 
October of 2002. We independently reviewed selected sections of the 
NCSL summary for accuracy, and supplemented the NCSL information with 
information from interviews with industry officials. The state laws 
summarized herein might have changed since the date of the NCSL 
publication. Additionally, as noted in appendix II, the state tort laws 
summarized in this appendix are not the only ones that might impact the 
treatment of medical malpractice claims in states' tort systems.

Figure 10: California:

[See PDF for image]

[End of figure]

Figure 11: Florida:

[See PDF for image]

[End of figure]

Figure 12: Minnesota:

[See PDF for image]

[End of figure]

Figure 13: Mississippi:

[See PDF for image]

[End of figure]

Figure 14: Nevada:

[See PDF for image]

[End of figure]

Figure 15: Pennsylvania:

[See PDF for image]

[End of figure]

Figure 16: Texas:

[See PDF for image]

[End of figure]

[End of section]

Appendix IV: GAO Contacts and Staff Acknowledgments:

GAO Contacts:

Richard J. Hillman, (202) 512-8678 Lawrence Cluff, (202) 512-8023:

Acknowledgments:

In addition to those individuals named above, Patrick Ward, Melvin 
Thomas, Andrew Nelson, Heather Holsinger, Rudy Chatlos, Raymond 
Wessmiller, Rachel DeMarcus, and Emily Chalmers made key contributions 
to this report.

[End of section]

Related GAO Products:

Medical Malpractice: Effects of Varying Laws in the District of 
Columbia, Maryland, and Virginia. GAO/HEHS-00-5. Washington, D.C.: 
October 15, 1999.

Medical Malpractice: Federal Tort Claims Act Coverage Could Reduce 
Health Centers' Costs. GAO/HEHS-97-57. Washington, D.C.: April 14, 
1997.

Medical Liability: Impact on Hospital and Physician Costs Extends 
Beyond Insurance. GAO/AIMD-95-169. Washington, D.C.: September 29, 
1995.

Medical Malpractice Insurance Options. GAO/HEHS-94-105R. Washington, 
D.C.: February 28, 1994.

Medical Malpractice: Maine's Use of Practice Guidelines to Reduce 
Costs. GAO/HRD-94-8. Washington, D.C.: October 25, 1993.

Medical Malpractice: Estimated Savings and Costs of Federal Insurance 
at Health Centers. GAO/HRD-93-130. Washington, D.C.: September 24, 
1993.

Medical Malpractice: Medicare/Medicaid Beneficiaries Account for a 
Relatively Small Percentage of Malpractice Losses. GAO/HRD-93-126. 
Washington, D.C.: August 11, 1993.

Medical Malpractice: Experience with Efforts to Address Problems. GAO/
T-HRD-93-24. Washington, D.C.: May 20, 1993.

Practitioner Data Bank: Information on Small Medical Malpractice 
Payments. GAO/IMTEC-92-56. Washington, D.C.: July 7, 1992.

Medical Malpractice: Alternatives to Litigation. GAO/HRD-92-28. 
Washington, D.C.: January 10, 1992.

Medical Malpractice: Data on Claims Needed to Evaluate Health Centers' 
Insurance Alternatives. GAO/HRD-91-98. Washington, D.C.: May 2, 1991.

Medical Malpractice: A Continuing Problem With Far-Reaching 
Implications. GAO/T-HRD-90-24. Washington, D.C.: April 26, 1990.

(250093):

FOOTNOTES

[1] Medical malpractice lawsuits are generally based on tort law, which 
includes both statutes and court decisions. A tort is a wrongful act or 
omission by an individual that causes harm to another individual. 
Typically, a malpractice tort would be based on the claim that the 
health care provider was negligent, had failed to meet the acceptable 
standard of care owed to the patient, and thus had caused injury to the 
patient.

[2] Some health care provider associations and others have expressed 
concern over medical malpractice insurance premium rates for nursing 
homes and hospitals, but this topic is outside the scope of our report.

[3] For other related GAO products, see the list at the end of this 
report.

[4] We determined the largest insurers in 2002 based on premiums 
written for calendar year 2001.

[5] The Medical Liability Monitor annually surveys providers of medical 
malpractice insurance to obtain their premium base rates for three 
different specialties: internal medicine, general surgery, and 
obstetrics/gynecology. 

[6] NAIC is a voluntary association of the heads of each state 
insurance department, the District of Columbia, and four U.S. 
territories. NAIC assists state insurance regulators by providing 
guidance, model (or recommended) laws and guidelines, and information-
sharing tools.

[7] A.M. Best is a rating agency that provides current or prospective 
investors, creditors, and policyholders with independent analyses of 
insurance companies' overall financial strength, creditworthiness, 
ability to pay claims, and company activities.

[8] Paid losses are the cash payments insurers made in a given period, 
such as a calendar year, on claims reported during both the current and 
previous years. Incurred losses include the insurer's expected costs 
for claims reported in that year and adjustments to the expected costs 
for claims reported in earlier years. In Mississippi, insurers' 
incurred losses increased approximately 197.5 percent from 1998 to 
2001, after adjusting for inflation.

[9] We adjusted for inflation using the consumer price index (CPI). The 
CPI is a measure of the average change over time in the prices 
consumers pay for a basket of goods and services. This report uses the 
CPI-U, which is meant to reflect the spending patterns of urban 
consumers and covers about 87 percent of the total U.S. population.

[10] In general, state insurance regulators require insurers to reduce 
their requested premium rates in line with expected investment income. 
That is, the higher the expected income from investments, the more 
premium rates must be reduced.

[11] Reinsurance is insurance for insurance companies, which insurance 
companies routinely use as a way to spread the risk associated with 
their insurance policies. 

[12] Some industry officials have characterized hard markets as periods 
of rapidly rising premium rates, tightened underwriting standards, 
narrowed coverage, and the withdrawal of insurers from certain markets. 
Soft markets are characterized by relatively flat or slow-rising 
premium rates, less stringent underwriting standards, expanded coverage 
and strong competition among insurers.

[13] Claims-made policies cover claims reported during the year in 
which the policy is in effect. Occurrence-based policies cover claims 
arising out of events that occurred but may not have been reported 
during the year in which the policy was in effect. Most policies sold 
today are claims-made policies.

[14] Claim frequency is the number of claims per exposure unit, such as 
a single general practitioner.

[15] Claim severity is the average loss per claim.

[16] Insurers collect premiums in advance for coverage during a future 
period of time, and as that period of time passes, those premiums are 
"earned." Premiums related to periods of time yet to pass are 
considered "unearned" and are a liability on the books of the insurer.

[17] Estimates of some individual insurers we spoke with ranged from 
around 3 years to over 5 years.

[18] In this report, premium rates are the base rates insurers submit 
to state regulators along with a schedule of potential deductions or 
additions related to the particular characteristics of policyholders. 
The actual premium rate insurers charge individual policyholders varies 
from the base rate. We could not determine the extent to which the 
actual premium rates charged varied from the base rates, but among some 
of the insurers we spoke with, the actual premium rates ranged from 
about 50 to 100 percent of the base rates over the past several years. 
Some market observers and participants also told us that the discounts 
have decreased over the last several years.

[19] All premium rate information in this report is based on survey 
data collected by the Medical Liability Monitor, a newsletter that, 
among other things, publishes the results of its annual surveys of the 
premium rates of medical malpractice insurers. Comprehensive survey 
data was available for years 1992 to 2002. The surveys, which are sent 
to medical malpractice insurers, request premium rates for each state 
or smaller region for a standard amount of coverage in three 
specialties--internal medicine, general surgery, and obstetrics/
gynecology. The Medical Liability Monitor selected these in order to 
have data representative of low-, medium-, and high-risk specialties. 
In the survey results for 1999 through 2002, all 50 states were 
represented in the rate information that companies provided. The 
premium rates collected in the survey are base rates that do not 
reflect the discounts or the additional amounts insurers charge, so 
actual premium rates can vary from the premium rates given in the 
survey.

[20] In this report, premium rates shown for Pennsylvania include a 
surcharge for a mandatory professional liability catastrophe loss fund. 
Policies purchased from an insurer provide coverage up to a specific 
amount, and the loss fund then provides additional coverage. The amount 
required to be covered by insurers has been increasing and the amount 
covered by the loss fund has been decreasing. In 2002, insurers covered 
the first $500,000 of any claim, up to an annual limit of $1.5 million, 
while the loss fund covered an additional $400,000 per claim, up to an 
annual limit of $1.2 million.

[21] We determined the largest insurers in each of our seven sample 
states based on premiums written in 2001.

[22] Not all of the insurers included in figs. 3 and 4 are the same, as 
data that would have allowed us to complete the same analyses for all 
of the insurers was not available.

[23] Over the past several years, some large medical malpractice 
insurers in some states have become insolvent. Such insolvencies may 
have caused aggregate paid losses in those states to be understated to 
an unknown extent, because while the insurer may still be paying 
medical malpractice claims, they may no longer be reporting those 
payments to NAIC or state regulators.

[24] According to at least one insurer, the best measure of the results 
from policies may be the ultimate paid losses on the claims reported 
that year, which insurers could compare to the premiums charged for the 
policies in question. However, as paid losses are not entirely known 
for at least 3 to 5 years after they claims are reported, such 
information is not completely available for the years 1998 through 
2002.

[25] To better show annual changes in the states with smaller total 
losses, in both figs. 5 and 6 we have separated our seven sample states 
into two groups, those with smaller total losses and those with greater 
total losses.

[26] Some additional data on medical malpractice claims, not connected 
to individual insurers, were available and were analyzed in a separate 
report. See GAO-03-836.

[27] Some insurers we spoke with told us that they can be liable for 
amounts beyond a policy's limits if the policyholder requests that the 
insurer settle with the plaintiff for an amount equal to or less than 
the policy limit, but the insurer takes the case to trial, loses, and a 
judgment is entered in an amount greater than the policy limits. 
Insurers in California, Florida, and Texas told us that payments beyond 
policy limits posed significant issues in their states.

[28] State laws for resolving medical malpractice claims may also 
affect the extent to which losses increase in a particular state. The 
effect of state laws on losses and premium rates is discussed in 
greater detail in GAO-03-836.

[29] As reported by A.M. Best. These insurers included a combination of 
commercial companies and physician-owned nonprofit insurers. Some of 
these insurers sold more than one line of insurance, and changes in 
returns on investments might not be reflected equally in the premium 
rates in each of those lines.

[30] Insurers in states where it takes more time to resolve medical 
malpractice claims would be more affected by changes in interest rates 
than insurers in states where it takes less time to resolve claims.

[31] National Association of Insurance Commissioners, Cycles and Crises 
in Property/Casualty Insurance: Causes and Implications for Public 
Policy (Kansas City, Mo.: 1991).

[32] NAIC, Cycles and Crises. 

[33] Some companies that were originally physician-owned have become 
publicly-held, physician-operated insurers. While those insurers must 
now earn profits to satisfy shareholders, and thus do not have all of 
the advantages that strictly physician-owned insurers have, public, 
physician-operated insurers may have certain other advantages, such as 
greater access to capital markets.

[34] In general, self-insurance involves protecting against loss by 
setting aside funds to cover potential claims rather than buying an 
insurance policy.

[35] A risk retention group is a state-chartered liability insurance 
company owned by its policyholders that can be formed as a stock or 
mutual insurance company. However, the Risk Retention Act of 1986 
preempts certain aspects of state laws regulating the activities of 
risk retention groups.

[36] A trust consists of segregated accounts of health care entities 
that simply estimate liabilities and set aside funds to pay them. Some 
trusts are not required to have a surplus or reserves.

[37] Tillinghast-Towers Perrin, U.S. Tort Costs: 2002 Update, Trends 
and Findings on the Costs of the U.S. Tort System (Atlanta, Ga.: 
February 2003).

[38] The California Supreme Court allowed companies to decrease prices 
less than 20 percent if a company could show that the rollback would 
make it impossible to earn a reasonable profit.

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