AIG is ringing the alarm bell the loudest.
Ben Bernanke and Tim Geithner think they’re bring clever and saving the US budget by forcing interest rates extremely low.
I’ve been cautioning people not to rush into insurance products as a “safe haven”. The problem insurance companies face is that their existing insurance policies are based on certain assumptions about long term interest rates and reasonable returns to expect on long term investments like office buildings, shopping centers, aircraft leases and the like.
Because it can be 30 or more years between when an insurance company takes in money and when it will have to return the money, an insurance company can hide its funding problems for a long time – but with 30 year US Bonds now down to 3.22%, the insurance companies are going to have severe solvency problems when/if state regulators start asking hard questions. Stare Guaranty funds that partially back insurance products are little more than a charade.
There are lots of really unpleasant side effects when an insurance company is declared insolvent. If you have borrowed against your policy higher than the amount guaranteed by the state fund, you will have to pay back the excess amount of that “loan” you expected to only pay back after you were dead. If the company is liquidated and your policy terminated early, the amount of the gain on the policy above what you paid in becomes a taxable event, even if you never receive that money from the liquidation. Since insurance invests in very long term assets, it can take 5 or 10 years to unwind the assets of an insurance company and send a final check.
All of the above may be why in 2008 the government stepped in to prevent the failure of AIG, although it had no obligation to do so.
Thanks for this info. I’m sure 99% of people haven’t thought of this. Insurance companies are like a rock, right? Just ask Grandma and Grandpa. I remember as a kid riding the train, seeing the brass plate on the engines – “Owned by XYZ Inurance Company”. I only figured that one out as an adult.
I wonder if the “payroll tax holiday” is going to cause similar troubles for Medicare and Social Security if continued for any length of time.
Absolutely on the Social Security thing.
The simplified explanation is that the US Government debt has two pieces – the external debt it owes to the world and the internal debt it owes to itself. When the income to Social Security is less than what it is paying out, it has to “cash out” its special debt – so even if there was no “defiicit” in government spending, the US Treasury has to replace that internal debt by selling more real debt.
Back in the Depression, there were several insurance company holidays. People at some point realize as things get desperate, they can borrow against their life insurance – however, life insurance companies typically don’t keep a lot of cash around – when sources of cash dry up, that puts a liquidity crunch on the insurance companies. So what a life insurance holiday usually means is that limits are placed on how much money can be “taken out” against the policy.
State Guaranty funds are a lot like the FDIC – they are there to prevent panic and to facilitate failures of small companies – they provide the oversight and perhaps a little cash to facilitate a large insurance company absorbing the policies and assets of the failed company. There is little or no money in the fund – what they have is the power to “assess” the companies that don’t fail to cover the losses of the failed companies. The process is not designed to “save” a large company from failing (“Too Big to Fail”)