Why Reinsurance Is Reshaping California’s Insurance Market
Published Date: 12/05/2024
In California’s rapidly evolving insurance landscape, one term keeps resurfacing in every serious policy discussion: reinsurance. While it may sound like an abstract industry concept, it is the invisible safety net that keeps the insurance market stable, solvent, and responsive to consumers’ needs.
During the California Department of Insurance (CDI) Workshop on the Net Cost of Reinsurance and Ratemaking on December 5, 2024, veteran insurance expert Karl Susman delivered pointed remarks that crystallized a growing concern within the industry — that California’s regulatory structure is unintentionally punishing insurers for doing the very thing that most protects consumers: buying reinsurance.
What Reinsurance Is and Why It Matters to Consumers
At its core, reinsurance is insurance for insurance companies. It allows insurers to share part of the financial risk they assume when writing policies.
By purchasing reinsurance, an insurer spreads potential losses across multiple entities, creating a safety cushion that ensures claims can be paid even after catastrophic events such as wildfires, earthquakes, or major storms.
As Susman explained during his testimony:
“It’s common sense. If we want to ensure there’s enough money to pay claims, we’d rather have a policy backed by several reinsurance companies than just one. Many wallets of money are better than one.”
This diversification benefits everyone. Insurers gain financial stability, and consumers gain confidence that claims will be paid when disaster strikes. Reinsurance functions as consumer protection, even though it operates behind the scenes.
California’s Regulatory Disconnect on Reinsurance Costs
California’s insurance market operates under Proposition 103, enacted in 1988, which gives the Department of Insurance strict control over how rates are approved. Insurers must justify every rate change using actuarial data on losses, expenses, and risk.
However, as Susman testified, the department does not currently allow insurers to fully include the actual cost of reinsurance in their rate calculations:
“In the calculation of those expenses, the department does not permit insurance companies to include the actual costs they’ve paid for reinsurance.”
This creates what Susman described as a disincentive for prudent financial behavior. Insurers that buy reinsurance — which makes them more stable and reliable — are penalized because they cannot recover those expenses through rates. Over time, this discourages insurers from operating in California at all.
“Insurers are literally penalized out of their own pocketbook if they do what we know is better for California consumers — purchase reinsurance.”
How Reinsurance Supports Market Stability
Reinsurance is not optional in a healthy insurance system. It allows insurers to:
- Expand capacity and write more policies without exceeding solvency limits
- Stabilize the financial impact of catastrophic losses
- Maintain required ratings from agencies such as A.M. Best
Without adequate reinsurance, insurers become vulnerable. Susman warned that several large carriers have already suffered rating declines and have responded by sharply increasing non-renewals.
“They’re not adding to their risk pool by offering new policies. Some of this could have been avoided with sufficient reinsurance in place.”
This creates a damaging loop: less reinsurance leads to reduced capacity, which leads to fewer active insurers, which leads to shrinking availability and higher consumer costs.
Direct Consequences for California Consumers
Although reinsurance sounds distant from everyday life, its absence directly affects consumers:
- When insurers cannot price risk accurately, they exit markets.
- When fewer insurers compete, prices rise.
- When competition collapses, coverage becomes scarce.
This dynamic is at the heart of California’s ongoing insurance crisis. As private coverage disappears, homeowners are forced into the California FAIR Plan, which is itself under strain from rising reinsurance costs.
Even FAIR Plan President Victoria Roach has identified reinsurance as her top financial concern, warning that it threatens the plan’s actuarial soundness.
“This isn’t about insurance company greed,” Susman emphasized. “This is about solvency and the state’s ability to sustain a functioning insurance market.”
The Little Hoover Commission’s Findings on Reinsurance
Susman referenced the Little Hoover Commission’s 2024 report, Building a Stronger Home Insurance Market in California, which reinforced the urgency of reform.
The Commission found that:
- Global reinsurance costs have risen 30–70% since 2020, especially in wildfire-prone regions.
- California’s outdated rate-setting framework prevents insurers from reflecting these costs in premiums.
- Insurers have limited or ceased operations in high-risk counties including Sonoma, Placer, and San Bernardino.
The Commission concluded that without regulatory changes addressing reinsurance costs, market availability will continue to shrink and the FAIR Plan will grow far beyond its intended role.
Reinsurance as Risk Management, Not Profit
A common misconception is that insurers use reinsurance to justify higher profits. Susman directly rejected that narrative:
“This isn’t about making more money. It’s about ensuring there’s money left to pay claims.”
Reinsurance premiums are expenses paid to other insurers for risk-sharing. When those costs rise but cannot be reflected in approved rates, insurers must absorb the losses directly. Over time, that financial equation becomes unsustainable.
Susman compared it to homebuilding: just as a homeowner cannot ignore rising lumber prices, insurers cannot ignore soaring reinsurance costs and expect to survive.
Capital Flight from California’s Insurance Market
Insurance is capital-intensive. Every policy represents a promise backed by reserves and reinsurance. When regulations make those promises financially untenable, insurers redirect their capital elsewhere.
The effects are already visible:
- State Farm, Allstate, Farmers, and others have restricted or paused new business.
- California wildfire reinsurance costs now rank among the highest globally.
- Smaller regional carriers are especially vulnerable, leading to mergers or market exits.
Ironically, a regulatory framework created to protect consumers is now limiting their access to insurance altogether.
What Smarter Reinsurance Regulation Could Look Like
Susman’s testimony pointed toward practical reform rather than deregulation. Key policy recommendations include:
- Modernizing Proposition 103 to explicitly recognize reinsurance as a legitimate rate expense
- Allowing forward-looking catastrophe modeling instead of relying only on historical loss data
- Reducing regulatory uncertainty to attract long-term insurer capital back into California
- Focusing consumer protection on insurer solvency rather than artificial price suppression
The objective is not to weaken regulation, but to restore balance and financial realism.
Reinsurance as a Form of Consumer Protection
In closing, Susman reframed reinsurance in simple consumer terms:
“When an insurance company buys reinsurance, it’s not just protecting its own balance sheet — it’s protecting every policyholder it serves.”
By disallowing insurers from recovering legitimate reinsurance costs, California’s regulatory system risks undermining the very protections it seeks to enforce. True consumer protection depends on financially stable insurers that can honor claims after catastrophe.
Key Takeaways on Reinsurance in California
- Reinsurance equals stability: It ensures insurers can pay claims after catastrophic losses.
- California’s rules are outdated: Current regulations prevent insurers from fully reflecting reinsurance costs in rates.
- Consumers feel the impact: Reduced competition, shrinking availability, and greater reliance on the FAIR Plan.
- Reform is urgent: Modernizing Proposition 103-era rules is critical to restoring a functional insurance market.
Reinsurance may be invisible to most policyholders, but its role is foundational. Without it — and without regulatory recognition of its true cost — California’s insurance market cannot remain stable, competitive, or accessible.
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