Car insurance costs are surging — but it's not because of price gouging

05/16/2024 02:58
Car insurance costs are surging — but it's not because of price gouging

Auto insurer costs have exceeded revenue from premiums for three years straight. Blame fancy cars and reckless drivers.

Like many consumers, President Biden rants about shrinkflation, junk fees, and corporate price gouging.

But the most eye-popping inflation at the moment is coming from an industry that’s bearing large operating losses and has actually been undercharging consumers for the last few years.

According to Wednesday's CPI reading, the cost of car insurance is up 22.6% during the past year, the biggest jump by far across the 28 major spending categories Yahoo Finance has been tracking since 2021. During the last four years, car insurance has soared by 57%, to an average annual premium of nearly $2,300, according to Bankrate.

Yet there’s no profit windfall, like those energy companies enjoy when the price of gasoline skyrockets. Instead, US auto insurers have endured three consecutive years of underwriting losses, which means they paid out more in claims and expenses than they took in through the premium we pay.

These losses $33.2 billion in 2022, according to AM Best, a ratings agency focused on the insurance industry. The underwriting loss narrowed in 2023 to $16.9 billion, but S&P Global Ratings expects another year of red ink in 2024, before premiums once again exceed costs in 2025.

The insurance industry overall is still profitable. Auto insurance is only about one-third of all the insurance carries provide, with companies also providing home insurance and other types of coverage. The industry’s overall profit margin dipped from 10.9% in 2021 to 4.7% in 2022, according to S&P Capital IQ. It may have rebounded to 9.5% in 2023, but that's still below the 11.1% average for the S&P 500 as a whole.

So as aggravating as soaring premiums are for drivers, insurers are largely blameless.

“They’re not price gouging,” Patricia Kwan of S&P Global Ratings tells Yahoo Finance. “What caught the insurance industry by surprise is supply chain issues, there were a lot of shortages, the cost of repairs got more expensive, and labor costs also went up.”

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The industry’s woes began with the Covid pandemic in 2020, which kinked global supply chains and caused shortages of many goods, including auto parts needed for repairs and new cars themselves. Newer cars are also increasingly sophisticated, with suites of sensors and electronics that are more expensive to repair. The cost of motor vehicle repair has risen 45% during the last four years.

Perhaps the most unforeseen factor affecting auto insurance costs has been a jump in fatality rates. There’s been a long-term improvement in auto safety, driven by better technology and other factors. But car-crash fatality rates jumped in 2020 due to a variety of potential reasons and have remained above pre-Covid levels ever since.

The higher fatality rates indicate that crashes are becoming more severe, pushing up the costs of repair and replacement as well as legal liability. Insurers base premiums on historical patterns and forecasts of future behavior, but when real-world trends bring surprises, it throws insurance pricing models out of whack.

In most markets, prices adjust quickly to disruptions. Not in insurance. Most drivers have either a six- or a 12-month policy, so insurers can change a given customer’s price only once or twice per year.

Auto insurance is also heavily regulated, with carriers in most states requiring permission to raise premiums above certain levels. It can take months or even years for insurance regulators to allow carriers to raise premiums to levels that cover losses. Those are some of the reasons insurance premiums are only now adjusting to costs that started to rise beyond normal levels at least three years ago.

Insurance regulators could try forcing insurers to accept smaller profits by keeping premiums lower. The risk, however, is that insurers will simply withdraw from a given market if it’s not profitable enough, leaving less competition, which could have the perverse effect of pushing consumer costs higher. Florida has struggled with exactly that dynamic in its home insurance market, which has suffered from an exodus of insurers and soaring costs.

The good news is that the worst of the consumer price hikes may soon be over. Insurers are cutting costs by advertising less and tightening up other expenses. Loss ratios and fatality rates are improving and car prices have flattened out after surging for three years.

Insurers also have an incentive to lower rates if costs allow them to — because people shop around and it costs a lot more to acquire new customers than to keep existing ones.

“If they overcharge, they lose efficiency and people will start dropping their policies,” Kwan says. “It’s a delicate balance.”

Same for drivers trying to afford their cars.

Rick Newman is a senior columnist for Yahoo Finance. Follow him on Twitter at @rickjnewman.

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