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Product Liability (2)
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Product Liability (2)
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Records of the Office of the Chief of Staff (Reagan Administration)
James Cicconi's Subject Files
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CROWELL & MORING
1100 CONNECTICUT AVENUE, N.W.
WASHINGTON, D.C. 20036
(202) 452-5800
CABLE: CROMOR
095:abk
TELECOPIER: 202-452-5970
TELEX: WUI 64344
62410-011
VICTOR E. SCHWARTZ
(202) 452-5873
June 3, 1982
Mr. James W. Cicconi
Special Assistant to the President
and Special Assistant to the
Chief of Staff
The White House Office
1600 Pennsylvania Avenue, N.W.
Washington, D. C. 20500
Dear Jim:
Thank you again for your help and guidance in
regard to the Administration's concern about the
product liability problem. I have enclosed the docu-
ment that Jim and you suggested regarding questions
the Administration has frequently asked about the
problem, and our answers to those questions. I have
also enclosed a copy of the document prepared by
Armstrong Cork, Inc. showing how a uniform product
liability act would help reduce legal costs -- even
if the act crystallized what might be regarded as the
"average" of existing law.
You have been most helpful to us in this exercise.
Please call to suggest problems or other ideas you might
have in regard to how we might best proceed.
With kind regards, I am,
Sincerely,
Vate
Victor E. Schwartz
Enclosures
CC: Ms. Nancy Clark Reynolds
Leslie Cheek, III, Esquire
Armstrong
May. 19, 1932
Sherman Unger, Esq.
General Counsel
U.S. Department of Commerce
14th & Constitution Avenue N.W.
Washington, DC
Dear Mr. Unger:
Pursuant to your request at the April 20-21 NLCPI conference on Federal
Tort Reform, I would like to provide these comments concerning the prac-
tical benefits and, in particular, cost savings accruing from a Federal
product liability statute as opposed to permitting tort law to evolve in
the non-uniform morass of state law.
As a Fortune 500 manufacturer, we have received a number of product liabi-
lity claims from around the country. From the perspective of counsel to a
corporation, the significant cost savings of a federal statute setting out
the legal parameters of product liability are immediately obvious.
Currently when a claim is made, it is frequently even unclear what the
legal basis of the claim is (tort, warranty, strict liability in tort).
At the present time, competent defense counsel charge on the average
between $75-$150 per hour. If a claim arrives from any state other than
our home state of Pennsylvania, we are effectively compelled to engage
local counsel immediately since it is impossible to keep abreast of and
research the complex nuances of out-of-state product liability law. Such
law is scattered through a large number of state and federal court deci-
sions. For example, Pennsylvania has some 100 appellate level strict
liability in tort cases alone, in addition to county court cases which are
also reported in Pennsylvania. This count does not include cases dealing
with related procedural matters, nor cases dealing with actions in
tresspass (negligence) and assumpsit (warranty). As you see Pennsylvania
even maintains old form common law pleading! It is not feasible to main-
tain a complete 50 state and Federal reporter system in our offices and the
nearest adequate law library is approximately 50 miles away.
The cost of obtaining even a cursory evaluation of a case costs no less
than $1,000 and any complex case will cost initially multiples of that
figure-just for a basic analysis under the law of the particular state
involved. If conflict-of-law issues arise, such analysis may add may addi-
tional dollars to the bill.
If a Federal statute existed, counsel for a corporation would be able
initially to evaluate such cases at a fraction of the cost of engaging
other counsel. Furthermore, the Federal statute would remove most
conflict-of-laws issues. A consequence of lowering these early
Sherman Unger
- 2 -
May 19, 1982
"transaction costs" would be that meritorious suits would be more quickly
settled and non-meritorious suits would be resisted, since counsel would be
less inclined to advise settling non-meritorious claims simply for their
"nuisance value" under the threat of added legal costs. With the current
chaotic legal situation, a company is subject to "blackmail" by the initial
transaction costs associated with any placement of the case with other
counsel.
Where claims would proceed to trial, if a well-drafted Federal statute
existed, corporate counsel would be better able to contribute to the pre-
paration of the case for trial than is currently possible when faced with
out-of-state litigation. Corporate counsel for even the smallest cor-
poration could be in a position to work with the law set out in the federal
statute as well as other counsel.
Although over time some divergent interpretations of the Federal statute
would inevitably occur, such evolution would be slow. Furthermore, the
divergence would, by definition, be in areas of nuance and not central
legal tenants. A close look at the evolution of the Uniform Commercial
Code's Article 2 on Sales illustrates the relatively manageable range of
interpretation that have arisen despite the fact that Article 2 is a much
more diverse and complex law than would be the product liability statute.
We have no problem in dealing with UCC Article 2 claims regardless of the
state in which it arises-quite the opposite of our position in the product
liability areá.
While discussing the UCC, it is noteworthy that it took some 20 years for
it to become nationally adopted by the states. The UCC was, however,
strongly supported by the Federal government and had no significant orga-
nized lobby opposing it at the state level as is the case with product
liability reform. In the area of tort reform, the U.S. Commerce Department
never actively lobbied in state legislatures for the UPLA nor was or is
there any "blue-ribbon", non-partisan organization such as the American Law
Institute to promote UPLA in the states as was the case with the UCC.
Against this historical perspective federalizing product liability emerges
as the only truly practical course to accomplish the goal of uniformity of
legal standards in this area of the law.
In summary, the availability of a Federal statute would provide:
1. A much clearer uniform standard of liability against which indivi-
dual claims could be more quickly evaluated. Therefore, bona fide
claims could be settled early without incurring the significant
initial "transaction costs" of engaging other counsel and possibly
sparing in some instances extensive, costly in-house claims
investigation.
Sherman Unger
- 3 -
May 19, 1982
2. Non-bona fide cases would be more readily resisted on the merits
without encountering the "blackmail" of nuisance suit settlement.
Ultimately, this would have an impact on the total number of weak
suits that plaintiffs would be tempted to bring. Again, a clear
saving of money and time.
3. On the average, one finds that it is the transaction costs which
make up a large percentage of the costs born by insurers when
cases are settled. These are the costs that could be contained by
the existence of a Federal statute; and this fact should have
impact on insurance costs, particularly where retrospective rating
is practiced.
4. Reviewing my experience with my previous and present firms, I
would suggest that the savings in initial outside counsel fees and
related overheads on a typical out-of-state claim would be from
$2,000-$4,000 per claim. Positing 100 claims per year, the
minimum savings would be between a quarter and a half million
dollars. The savings would increase where the case moves forward
to trial or where there is an especially complex case. If you
examine the total product liability costs of corporation, it is
quickly obvious that in the aggregate the transaction costs are,
at least, 50% of the total cost burden in a typical
year, excluding, of course, any unusually high judgments.
5. Although an elusive, but nontheless a very important benefit of a
well-drafted Federal statute would be in its communication value
to non-lawyers. Currently, as a practical matter, it is virtually
impossible to state to a businessman the rules of product
liability; rather it has become an arcane field for lawyers. A
concise, uniform statutory statement of the rules - a statement
intelligible to a layman - should have the salutary effect of
conveying to manufacturers and sellers that there are rules and
that the system is not one of cynical legal roulette. Better
understanding by the businessman can lead to more effective busi-
ness decisions and the commitment of time and money to conform to
legal standards that are, at least, intelligible to the lay-
persons who are responsible for the relevant product related deci-
sions.
In conclusion, I would suggest that anyone who believes that uniform
Federal rules would not save money and increase efficiency, should analyse
the costs saved in interestate commercial transactions by the adoption of
the Uniform Commercial Code. No lawyer with pre-UCC experience would ever
advocate a return to the pre-UCC situation.
Sherman Unger
- 4 -
May 19, 1982
Speaking as a person who for a decade has followed product liability
developments in detail on a nationwide basis (the undersigned served as
Director of the 7-Volume Legal Study for the Federal Interagency Task Force
on Product Liability), I challenge anyone to demonstrate that the federal
statute would not produce, at least, the savings I have identified.
Sincerely yours,
SALES
Frank A. Orban, III
Senior Attorney
Legal Department
Secretary's Office
TJH
June 4, 1982
Questions and Answers prepared for Administration
officials. Please review and let me know your thoughts
as soon as possible.
VES
Victor E. Schwartz
Questions and Answers
1. Q: Would the enactment of a Federal product liability bill be
antithetical to the President's program of "new federalism"?
A: It would not be. New federalism is directed at returning pro-
grams handled by the Federal Government to the states. The
enactment of a Federal product liability bill involves no pro-
grams, no Federal expenditures of money, and no Federal office.
It is simply a series of rules that would be utilized by state
courts in product liability cases. Moreover, it is in accord
with a long standing tradition of the Federal Government to
promote interstate and foreign commerce. Without uniform
national rules applicable in all product liability cases, inter-
state and foreign commerce are seriously impeded. Relevant pre-
cedents for Federal action of this nature trace back to 1909
with the enactment of the Federal Employers Liability Act.
2. Q: Would the enactment of the bill seriously compromise states'
rights?
A: Previous Administrations, with states' rights issues in mind,
tried to solve the product liability problem by drafting a model
uniform product liability act for enactment by the states. How-
ever, experience has clearly shown that the states are unable to
address a problem which is related to interstate commerce.
Product liability legislation enacted at the state level has
served only to limit the rights of injured persons to sue in
that state. It has provided no benefit to product sellers or
insurers.
- 2 -
The reason for this is twofold. First, most products
(approximately 70%) are shipped out of each state -- they are
not consumed or used within the state's boundaries. If they
cause a harm, the resulting law suit is not governed by the
product liability statute in the state of manufacture. Second,
as a result of the interstate movement of products, product
liability insurance rates, unlike all other forms of liability
insurance, are based on countrywide data. Thus, a product
liability statute in one state has little or no effect on
product liability insurance ratemaking. This is one reason why
the usually states' rights prone insurance industry almost
uniformly supports the enactment of this legislation.
3. Q: Would the enactment of this bill be "a foot in the door" to
Federal regulation of worker compensation or other areas of
tort law?
A: A simple answer to this is No. Federal product liability law
is not a foot in the door for other legislation. At present,
worker compensation is handled by individual states, and insur-
ance rates are set based on individual state experience. If
worker compensation insurance rates are too high, an individual
state can address this issue by changing its workers compensa-
tion law. As indicated above, this is not the case with product
liability, an area in which insurance rates are based on nation-
wide data.
- 3 -
Further, the coalition favoring enactment of Federal
product liability law includes all groups that traditionally
have wanted to limit the growth of Federal power -- manufac-
turers, wholesaler-distributors, small business, retailers,
insurers, insurance agents and brokers. The likelihood that
these groups would unify behind the Federal regulation of
insurance, the Federal regulation of worker compensation, or
any other area of tort law, is virtually impossible.
4. Q: Will the enactment of this bill result in a movement by
consumers or others to expand the role of the Consumer
Product Safety Commission?
A: To the contrary, a uniform Federal product liability bill would
provide an alternative to Federal regulation of products. The
present state-by-state product liability system is erratic and
unpredictable; it does not provide any clear guidelines to
product sellers who desire to make and sell safe products and,
therefore, does not provide an alternative to Federal regulation
of products. The original study which recommended creation of
the Consumer Product Safety Commission, recognized that because
tort law was uneven and erratic in nature, the CPSC was needed.
See Final Report, National Commission on Product Safety, p. 79
(1970). This is not to suggest that the enactment of a Federal
product liability law would negate the need for the Consumer
Product Safety Commission. Rather, such a law would not expand
- 4 -
the role of the CPSC. An evenhanded, consistent product
liability law would give clear guidelines and precise incen-
tives on product sellers to make and sell products which will
not cause accidents.
5. Q: What economic benefits would arise from the enactment of a
Federal product liability law? What data can be produced to
conclusively demonstrate this fact?
A: Cost savings from the enactment of a uniform product liability
law would be recognized in three areas. First, because the law
would be the same in each state and would be in statutory form,
the need for litigation on issues, which are currently uncertain
and are argued and reargued with different results in different
cases, would be substantially reduced. Every single member of
The Product Liability Alliance agrees with this statement; how-
ever, none can precisely quantify the reduction in legal costs
which would result. Time and experience under the law is neces-
sary for this type of quantification.
Second, enactment of a uniform product liability act will
lead to increased accuracy in setting rates and premiums. The
law would provide predictable and certain rules of liability.
The present system has no predictability and causes erratic
pricing patterns by insurers. The insurance industry, however,
cannot project precisely the cost savings or premium reductions
a product liability bill would create. Generally, insurance data
- 5 -
lag about five years behind the enactment of any new law. It
is the professional judgment of over 95 percent of the insurance
industry that a Federal product liability law will help stabilize
the system and avoid erratic swings in product liability insur-
ance rates which have been a pattern over the past decade.
6. Q: Can you give us examples in current product liability law
proposals where costs would be reduced?
A: The predictability provided in each section of the bill will
reduce costs, principally transaction costs. Congress can
create clear and certain rules that cannot be created by court
decisions, which are subject to change, often retroactively, and
which generally have no binding effect outside the state. Two
examples in Senator Kasten's Staff Draft No. 2 demonstrate the
way it would reduce transaction costs. First, Section 5 of the
bill will hold nonmanufacturer product sellers liable for their
own negligence or fault unless the manufacturer is out of business.
Current law in a number of states holds the nonmanufacturer
product seller strictly liable as if it were a manufacturer.
The product seller then must bring a "contribution action"
against the manufacturer which actually caused the harm in order
to shift liability onto the manufacturer. This shifting of
liability through second lawsuits occurs in over 95 percent of
product seller cases. Under Staff Draft No. 2, in that 95 per-
cent of cases where the product seller is not actually responsi-
ble for the harm, the product seller would not even be subject
- 6 -
to suit. The seller thus avoids the time and expense of defend-
ing itself and of bringing the secondary suit against the party
actually responsible.
A second example of cost savings can be found in Section 9
of Staff Draft No. 2. This section would eliminate the subroga-
tion lien in product liability cases that arise in the workplace.
Insurers have estimated that this will substantially reduce the
number of product liability claims brought in the workplace
(data show that while these constitute only 11 percent of the
cases, they equal 42 percent of payouts). Data show that a sub-
stantial portion of product liability cases stemming from work-
place injuries do not result in recoveries that are greater than
the subrogation lien. Insurers experience very high transaction
costs in this area with the net result that elimination of
product liability subrogation lien will reduce the cost of
product liability insurance for machine tool manufacturers
without any substantial increase in the cost of worker compen-
sation. We can provide you with an additional memorandum on
this point.
7. Q: If the product liability law that is enacted represents the
"average" product liability law in the United States, will this
save costs apart from lawyer costs that you have already mentioned?
A: As Professor David Rice of Yale Law School has observed, the
current system in product liability cases places a clear disin-
centive on judges who want to make a rational and balanced
judgment. For example, assuming the State of California's
- 7 -
Supreme Court holds manufacturers liable in cases where they
have in no way been at fault (there are a number of cases to
this affect), a court in another state who may not wish to
follow California law is under a strong economic incentive to
do so. This is because citizens in his state are paying the
cost of the extreme product liability rules in California.
They pay this cost in the price of their products. Since the
citizens in his state are already paying the freight for
California extreme liability rules, the court is under a great
incentive to follow the California rule so his citizens have
the benefit of that largesse. If a law were enacted where the
rules were the same in all states, this motivation to expand,
expand and expand liability would be ended. All states would
be under a rational and balanced product liability system.
8. Q: Some product sellers have said a uniform product liability act
would save production costs. Are those costs quantifiable?
A: Product liability costs permeate almost the entire manufacturing
process from choosing the design of products and warnings about
products, through the manufacturing process. Confronted with a
crazy quilt of product liability laws and differing state rules
on product safety, manufacturers spend an extraordinary amount
of time trying to ensure that their products satisfy the require-
ments of as many states as possible. Because states' rules often
conflict and because they may change, there is no way one product
can satisfy the requirements of all states. Nevertheless, no
- 8 -
member of The Product Liability Alliance can quantify the amount
of time that will be saved by having the rules the same in all
states. It is simply a matter of fact that time will be saved
and that conflicting requirements will be eliminated.
9. Q: Is there a simpler way to handle product liability law apart from
enacting a series of rules which would preempt the state law?
A: We wish there were. A suggestion was made under which a Federal
law would make the product liability law of the state of manu-
facture govern. As a practical matter, this would not work.
First, it would provide no rules applicable to the nonmanufac-
turer product sellers. Second, many manufacturers have plants
in a number of states. Third, such a system might create an
irrational basis for a state to keep its liability rules
extremely broad or extremely narrow.
Another suggestion would establish a series of Federal
standards which the states would have an opportunity to meet.
A bureaucracy in the Federal government would determine whether
states "measured up" to those standards. The simplest approach
and the cheapest and the most effective is the one taken in Staff
Draft No. 2 -- provide a series of rules that the courts can
apply in product liability cases. This approach has worked with
the Federal Employers Liability Act since 1909.
- 9 -
10. Q: Is this an effort to limit liability and therefore adverse to
consumer rights?
A: The general effort is to enact a balanced and effective product
liability law, not to return to the law of 1900. In fact,
certain provisions of Staff Draft No. 2 would expand consumer
rights in a number of states. Other provisions would eliminate
decisions which have adopted a minority rule of law that is
either unfair to product sellers or contrary to public policy.
Legal memoranda on these topics can be provided if you wish.
Consumers will benefit in key ways under this bill. First,
the bill will reduce overall product liability costs. These
cost reductions will be passed on to consumers.
Again, there is
no way to quantify precisely these savings until the bill is
enacted into law, but the savings could be substantial. Second,
the bill would allow consumers to know what their rights are in
product liability cases. For example, the Kasten draft makes
clear that manufacturers will always be responsible for mismanu-
factured items or where they misstate material facts about their
products and this results in injuries to consumers. At present,
consumers are totally dependent on lawyers to know their rights.
11. Q: Product liability reform is obviously a legal issue. Why are so
many organized bar groups against the enactment of this bill?
A: We find it interesting that the Defense Research Institute which
represents the defense bar says, "Leave this issue to the states",
- 10 -
as does the American Bar Association (which is reconsidering
the issue). The American Trial Lawyers Association, which
represents plaintiffs, thinks no bill is necessary and that the
current confusion is a good thing. The fact is lawyers are the
primary beneficiaries of the chaotic system that exists.
Important cost savings will come from the reduction in legal
costs. Again, this cannot be quantified until we have experi-
ence under the bill, but apparently the lawyers believe the
same thing that the proponents of the bill believe -- it will
reduce legal costs.
12. Q: Will our support for a Federal product liability law be
strongly opposed by state governors, judges and legislators?
A: There are no indications that this will occur. In fact, evidence
points the other way. Three governors have vetoed bills on the
basis that state product liability laws cannot effectively solve
the problem. Their view was that such laws curb consumer rights
without providing any benefit to product sellers within their
state. As the process continues, it would seem likely that some
governors (perhaps prompted by trial lawyer organizations) will
write letters of concern about a Federal product liability law,
but we have no reason to believe that this will become a major
issue with the governors.
At a recent (May 26, 1982) ABA Appellate Judges Conference,
the issue of Federal product liability law was addressed for
- 11 -
three hours. None of the judges present raised states' rights
objections. In fact, a number of them informally expressed the
view that it would be easier to have product liability law in a
statutory form as a source of law in product liability cases.
Some state judges are likely to write objecting to the process,
but there is no evidence of mass opposition.
State legislators may feel a sense of "relief" because
they have come to appreciate that the interstate and foreign
commerce aspect of the problem makes it impossible for them
to deal with product liability effectively.
To date, in spite of the widespread publicity that has
been given to the movement for Federal product liability tort,
little if any mail has been received objecting to it from state
judges, state legislatures, or governors.
THE PRODUCT LIABILITY ALLIANCE
1725 K Street, N.W Suite 710
Washington, D.C. 20006
(202) 872-0885
BACKGROUND PAPER ON
PRODUCT LIABILITY INSURANCE
The Federal Interagency Task Force on Product Liability,
after a two-year study of the severe product liability insurance
market dislocations of 1974-76, concluded in November, 1977, that
the insurance availability and affordability crisis experienced
by many American businesses was the manifestation of a problem
with three discrete elements: (1) overly subjective insurer rate-
making practices; (2) unsafe manufacturing practices; and (3) growing
uncertainty in the State laws governing product liability.
The Task Force developed proposals to address each of these
elements concurrently.
To encourage safer manufacturing practices and to stabilize
the legal environment, the Task Force drafted a model State
statute, the Uniform Product Liability Act (UPLA), which codified
the rights of persons injured by defective products and the
obligations of product sellers.
With respect to insurance, the Task Force proposed the
Product Liability Risk Retention Act, to facilitate business
use of competitive alternatives to commercial coverage; and
undertook a two-year study of product liability insurance rate-
making processes.
The genesis of the Risk Retention Act was the complaint
by many sellers that their product liability insurance rates (or
rate increases) did not fairly or accurately reflect their loss
- 2 -
experience or loss potential. In some cases, these complaints
were justified, since product liability insurance rates
generally are based on the experience of entire industries,
not of individual companies within these industries.
The Risk Retention Act was designed to enable product
sellers who believed they were being overcharged by their
commercial product liability insurers to join together either
to form their own insurance companies (called "captives") or
to organize "purchasing groups" to obtain rate concessions
through the purchase of group coverage in the commercial market.
The theory of the Act was that potential competition from
product seller captives and purchasing groups would both
encourage commercial insurers to price their policies accurately
and fairly and relieve market pressures in the event of a
tightening of commercial insurance availability.
Initial insurance industry opposition to the Act, based
on its creation of a Federal chartering authority for risk
retention groups, was dissipated through revisions permitting
the groups to be chartered under State law or (until January 1,
1985) in Bermuda or the Cayman Islands, and by the time the bill
became law (P.L. 97-45, September 25, 1981), all semgents of the
industry either supported it or did not actively oppose it.
In July, 1978, the Task Force asked the Commerce Department
to undertake a study of product liability insurance ratemaking
procedures, evaluating, among other things, "the appropriate
Federal role in product liability insurance;' "the effectiveness
of initiatives by State regulators and the insurance industry
- 3 -
to address the problem;" and "whether the product liability
premiums can more closely reflect actual product risk."
The Department's Report, issued in August of 1980, concluded
that "all of our proposals can be accommodated without a Federal
intrusion," and that "the present system of State regulation
can, at least theoretically, take our concerns into account."
Any "Federal regulatory presence," the Department said, "would
be premature."
The Report noted that "the insurance industry and State
regulators are taking certain steps to improve" overly subjective
ratemaking practices, but set forth "a number of recommendations
for improvements in product liability ratemaking methodology"
and allocated "responsibility for their implementation among
ISO (the Insurance Services Office), insurers, State regulators,
the NAIC (National Association of Insurance Commissioners), and
State legislatures. "
Many of the Report's recommendations focused on the
incompleteness of the industry's product liability data base;
the ISO, the principal insurance statistical advisory and rate
service organization, could not separate product-related losses
from other losses covered under the Comprehensive General
Liability (CGL) policy, the form in which a large portion of
all products coverage is sold.
But, the Report noted that "ISO has made substantial
improvements over the practices that existed prior to 1974 in
its collection of product liability data," and concurred with
ISO's belief that, with the 1978 revisions to its Commercial
- 4 -
Statistical Plan (CSP), "it is collecting sufficient data to
enable it to (make rates) adequately."
The Report also warned that limitations inherent in data
required by the NAIC and under a variety of State statutes
"render it ineffectual in drawing inferences concerning industry
wide product liability insurance experience:"
The NAIC supplement to the annual convention
statement, as well as the reporting requirements
of individual States, are providing an over-
abundance of product liability information. Much
of the information being requested is of marginal
utility.
The NAIC supplement is subject to a number
of difficulties, one of which is its failure
to match losses and expenses with appropriate
periods giving rise thereto
If one is seeking to ascertain the profit-
ability of writing product liability insurance
this cannot be fully gleaned from the NAIC
supplement.
State reporting statutes which require
nationwide experience are needlessly duplicative
of the NAIC supplement. Moreover, such require-
ments are subject to the same limitations and
criticisms as are the nationwide data on the
NAIC supplement, and from the vantage point of
the State regulator (appear) to be of marginal
utility.
Since product liability experience is
generally required to be furnished on a State
basis pursuant to these reports, the reported
experience is subject to difficulties in
connection with the allocation of experience
attributable to multi-State activity. The
most appropriate allocation for multi-State
business would be to allocate premiums on
the basis of exposures generated by activities
within a State, and to include losses attrib-
utable to such exposures (regardless of where
they occur). This would equate a multi-State
enterprise with a business situated solely in
a single State.
- 5 -
The Report recommended that State legislatures "repeal State
product liability reporting laws, assuming the State uses the
NAIC product liability supplement, as amended with recommend-
ations proposed herein. "
Finally, the Report recommended that NAIC revise its
product liability reporting form to more accurately reflect the
role that income from investment of premiums plays in a line of
insurance in which many losses are paid years after the premium
is collected. The Report observed that
insurers potentially earned substantial amounts
of investment income from the writing of product
liability insurance which is not reflected in product
liability rates; and
the product liability under-
writing losses complained of may be significantly off-
set by the substantial amounts of investment income.
A significant number of the Report's recommendations have
been adopted by both the industry and its State regulators.
Moreover, many of the problems addressed by the Report have
disappeared as a result of changing market conditions and
competitive considerations.
Indeed, even as the Commerce Department began its study,
the product liability rate increases and market restrictions of
earlier years disappeared. The following table shows the country-
wide effect of the combined rate level changes for ISO product
liability bodily injury and property damage coverages, basic and
increased limits, from 1975 through the first nine months of 1981:
1975
+ 117.3 percent
1976
+
35.7 percent
1977
+
3.1 percent
1978
+
0.1 percent
1979
-
1.6 percent
1980
-
0.7 percent
1981 (9 months)
-
5.8 percent
- 6 -
Attractive investment returns precipitated a competitive
struggle for premium dollars among insurers and their rein-
surers in recent years that shows no sign of abatement despite
steadily worsening loss ratios. The "cash flow underwriting"
phenomenon of the past two years is based on insurers' belief
that in "long-tail" lines like product liability, returns on
the investment of premiums will make up for the inability of
those premiums to cover anticipated losses and expenses.
Given the historically cyclical nature of the insurance
business, it is likely that product liability rates will move
upward again at some point in the future. The current price
war among insurers is artificially depressing rates and must
inevitably give way to a recognition of underlying cost
pressures -- inflation, increasing claim frequency, and radical
changes in the tort litigation system.
Future increases, however, will not likely replicate
the "panic pricing" crisis of the mid-1970's. A more complete
and substantial data base exists today, giving both insurers
and their regulators greater confidence in pricing product
liability coverage; consequently, future rate adjustments are
likely to be more gradual than those the precipitated the
crisis of the 1970's.
Moreover, the availability of competitive alternatives
to commercial insurance (self-insurance, risk retention groups,
etc.) assures that market forces will temper any upward movement
of rates that is inconsistent with actuarial experience.
Two major imponderables remain: If interest rates drop
precipitously, prices in the marketplace are likely to rise.
- 7 --
And it is difficult to anticipate the effect that several
recent court decisions (e.g., Sindell, Schiavone) will have
on product liability claim frequency and/or severity. But
even if interest rates drop dramatically and claim frequency
and severity soar, these developments will likely be reflected
gradually, rather than suddenly.
The ISO generally uses the countrywide experience of
all reporting companies for five years as its data base in
the development of future rates. Thus, a dramatic increase
in claim frequency or severity in the latest year would be
tempered by the experience of the previous four years in develop-
ing rates for the future. Presumably the ISO trend factors
would also pick up the upward trend in cost or frequency.
As the Task Force Report observed, the impact of one
State's court decisions is national, rather than local. Not
only is one State's experience for all companies meaningless
for ratemaking purposes, even it it involves five years of
data, but also, the movement of products among all the States
renders any attempt to produce State-by-State product liability
rates futile. A product made in one State may be sold and
used in dozens of other States, each with quite different rules
governing the manufacturer's tort liability. Moreover, legal
precedents in one State may encourage the filing of suits
there rather than in other jurisdictions. Thus, realistically,
rates for even a localized business must be based on its
national exposure, rather than its potential liability in its
home State.
- 8 -
Conclusion
Any insurance system ultimately reflects the underlying
costs of the legal system to whose liabilities it must respond.
Improved data collection and statistical analysis, and
competitive alternatives to commercial insurance, assure that
product liability insurance prices will be increasingly
responsive to losses and expenses. For insured and self-
insured businesses alike, the amount of those losses and
expenses depends on the success or failure of efforts to
create better incentives for safe manufacturing practices and
to restore balance to the tort litigation system.
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