Introduction
Over the past few years, the concept of “social inflation” has become a buzzword within the property and casualty insurance industry. Simply put, social inflation refers to the tendency of jury awards and settlements for things like pain and suffering damages to increase at a rate higher than general economic inflation. While the costs of goods and services may rise modestly each year due to normal economic factors, jury awards for non-economic damages seem to be growing much more rapidly.
This trend of social inflation presents significant challenges for insurers. Higher litigation costs and settlement amounts means insurers must charge higher premiums simply to maintain profitability levels. Policyholders ultimately foot the bill for these rising costs through increased insurance rates over time. If social inflation continues unchecked, it could threaten the viability and affordability of liability insurance coverage.
In this blog post, I will examine the drivers behind social inflation and its impact on property casualty insurers and policyholders. First, we will look at the data showing jury awards and insurance claim payouts increasing faster than the general rate of inflation. Then we will explore some of the societal and legal factors thought to be fueling ever-larger monetary awards. Finally, I will discuss how insurers are responding to social inflation through measures like rate increases, risk selection, and lobbying for tort reform. By understanding social inflation and its causes more fully, hopefully we can have a constructive discussion on ways to balance the rights of injured plaintiffs with insurance affordability going forward.
The Data Shows Payouts Rising Faster than Inflation
To understand how social inflation affects insurers, it helps to look at the raw numbers from jury awards and insurance claims over time.Several studies have analyzed civil jury verdict data from major metropolitan areas across the United States. Consistently, they find that median and average awards for things like pain and suffering damages are increasing at annual rates far surpassing the normal 2-3% rate of economic inflation.
For example, a 2017 report from Jury Verdict Research examined nearly 27,000 jury awards from California state courts between 1993 and 2015. It found that the median jury award increased by a total of 242% over that 23-year period, equivalent to around 6.4% annual growth. Meanwhile, the Consumer Price Index, the most commonly used measure of inflation, only rose around 59% over the same timeframe, for an average yearly increase of 2.2%.
Similarly, an analysis by the State Farm Insurance company compiled data covering 12 metropolitan areas between 2006 and 2016. It found median jury awards in those regions increased an average of 62% during that decade-long span, while general inflation as measured by the CPI only went up around 15%. Other studies have found comparable results, consistently showing jury awards rising 3-5 times faster than the baseline inflation rate.
The trend is not limited just to jury awards either. Data from the Property Casualty Insurers Association of America (PCI) on closed insurance claims paints a comparable picture. PCI’s analysis shows that average claim payouts for things like auto accidents, premises liability, and workers’ compensation increased between 3-5% annually from 2009-2019, far surpassing the annual CPI inflation rate of around 2% over the same period.
So in summary, the hard numbers show that both monetary judgments awarded by juries and settlement amounts paid out by insurers on claims have been increasing much more rapidly than general economic inflation for well over a decade now. This “social inflation” poses a major concern for insurers trying to accurately price policies and set adequate reserves. But what exactly is driving these higher costs?
Societal and Legal Factors Fueling Social Inflation
There is no single agreed upon cause of social inflation. However, most experts point to a confluence of societal and legal system changes that have gradually pushed up the monetary value placed on non-economic damages like pain and suffering:
- Increased societal empathy – As a society, we have become more cognizant of and sympathetic towards people suffering from injuries, disabilities or ongoing pain/discomfort. Juries may feel more compelled to “make the plaintiff whole” through higher monetary awards.
- Larger potential jury pools – Broader jury pools in major metro areas with more racially/economically diverse residents may lead to different social views and expectations of appropriate compensation.
- Plaintiffs’ bar tactics – Aggressive plaintiff attorneys use persuasive tactics like anchoring juries to large sums, focusing on clients’ suffering rather than objective injury details, and forum shopping for court systems trending towards higher awards.
- Weaker standards restricting awards – Some legal experts argue state supreme courts have relaxed historical standards limiting size of noneconomic damages and weakened judicial review of outlier jury awards.
- Changes to joint & several liability – Reforms to tort law in some states converting joint & several liability to proportionate several liability may push more costs towards insured defendants vs. reducing overall damages paid out.
- Expanding liability laws – New theories of liability have increased potential pathways for plaintiffs to win significant cases (e.g. premises liability, distracted driving liability, Uber/Lyft litigation).
- Healthcare costs inflation – Rising healthcare prices create an inflation feedback loop, as larger medical bills tend to correlate to higher compensation for pain/suffering.
Again, there is no consensus on the exact weighting of each factor. But most analysts agree social inflation stems from a complex interplay of cultural attitudes, litigious environment changes, and liability system dynamics – not purely economic conditions. And it shows no signs of slowing unless reforms are made.
Rate Hikes, Risk Selection, and Calls for Tort Reform
With claim costs and jury awards inflating beyond policy pricing assumptions, insurers have been forced into defensive measures to offset rising ultimate losses. At the same time, consumer advocacy groups have accused some insurers of overstating social inflation as an excuse for unreasonable rate increases. Undoubtedly, it is a complex balancing act, but here are some of the major ways industry and policymakers have responded:
- Premium Rate Increases – With loss projections continuing to exceed original estimates, most insurers have pursued average premium rate hikes between 5-15% over the last 5-10 years across major commercial and personal lines like auto, homeowners, and commercial general liability. Although approved by regulators, consumer groups argue some hikes still go too far.
- Risk Selection – Insurers are tightening underwriting standards to avoid hiring new clients likely to submit claims or file lawsuits. Tactics include raising minimum premiums on high-risk classes like contractors, scrutinizing prior claims histories, and declining to insure certain classified professions prone to lawsuits.
- Tort Reform Lobbying – Industry advocates lobby state legislatures for “tort reform” measures like capping punitive and noneconomic damages, altering joint/several liability rules, limiting med-mal liability awards, raising filing standards for frivolous suits,etc. However, success has been mixed and current law limits insurers’ direct influence.
- Policy Changes – Carriers also experimented with revising policy language and endorsements to restrict certain liability exposures and institute more stringent proof-of-claim rules before paying large settlements. But consumer groups argue some changes may conflict with reasonable coverage expectations.
- Increased Litigation – A few insurers have even filed defamation lawsuits against plaintiffs’ attorneys publicizing unusually large jury awards as misleading advertising. However, whether litigation effectively counters problematic attorney tactics remains to be seen.
- Alternative Risk Transfer – Recently, some insurers began working directly with large commercial clients, trade groups, and public entities to design alternative risk financing vehicles like large deductible programs, captive insurance plans, and risk pooling arrangements as a better long-term solution than standard insurance.
As with any hotly debated issue, reasonable people can disagree on the appropriate policy responses. However, most experts feel a “do nothing” approach risks undermining insurance affordability if loss trends stay far removed from original rate assumptions. Constructive discussion of measured short and long-term reforms seems prudent.
Social Inflation Impact on Small Business Insurance
An often overlooked consequence of social inflation is how rising commercial liability insurance costs disproportionately burden small businesses. While large companies have more flexibility absorbing increased premiums, excessive hikes threaten the viability of customer-facing small operations with tight margins. Here’s a closer look:
- Small contractor’s story: Carl runs a small residential construction company with 10 employees. Over 5 years, his general liability premiums doubled to $40k annually as underwriters raised rates 15% compounded. With higher materials/labor costs too, Carl had to raise bids by 20% just to cover insurance alone – potentially pricing him out of new jobs.
- Childcare center’s woes: Susan owns an in-home daycare licensed for 12 kids. But after her last rate increase to $8k/year, the premium eats 15% of revenue. She’s considering closing to avoid taking on more debt. Her clients have families to support too and can’t afford higher fees.
- Retail shop struggles: David has run his neighborhood hardware store for 25 years. But chronic knee pain from a car accident means higher risks from expensive slip-and-fall claims. His new business owner’s policy jumped a stunning 30% to $15k per year, threatening the store’s viability if costs aren’t cut elsewhere.
- Small medical clinics impacted too: Even low-risk medical practices feel the pinch. A family medicine doctor sees premiums doubled in 3 years to an unsustainable $80,000 annually. She’s now forced to abandon independent practice and become an employee of a hospital network to access lower group rates
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