April 6, 1999
 

Roger C. Viadero
Inspector General
Office of Inspector General
U.S. Department of Agriculture
Washington,  D.C.  20250

Dear Mr. Viadero:

    I am dismayed with the inaccuracies and poor conclusions contained in your "Report To
The Secretary On Federal Crop Insurance Reform" (No. 05801-2-At) dated March 1999.  The
report claims to be "based on our prior audits and investigations."  However, a majority of the
report does not appear to be based on any audit or investigation conducted by the Office of
Inspector General (OIG).  A significant portion of the report is based on a Federal cost
comparison that reflects a fundamental misunderstanding of the Crop Insurance Program and the
Federal budget process.

     Moreover, the entire report seems to be a conclusion in search of supporting material.
The conclusion you seem to start with is that the government, not private industry, can deliver the
crop insurance program more efficiently.   To support your conclusions, you use faulty cost
analysis, inaccurate budget numbers, misinformation about the structure of the program, and
nonsensical comparisons.  Not once do you show how FSA, which cannot now deliver disaster
relief in a timely manner and has recently asked for large infusions of appropriations, could do
this job at all.   Regrettably, you overlook all the previous reports of widespread fraud and abuse
in government disaster relief that your office has conducted.

Misunderstanding the Nature of Insurance

     Mr. Viadero, this is an insurance program, not an income transfer program.  Insurance
companies expect to accrue underwriting gains during years when losses do not exceed
premiums, as has occurred over the past four years.   When losses exceed premiums, as happened
in 1993, the companies will experience an underwriting loss.  This is true of any insurance
program, whether it be home, auto or life insurance.  In most years, the insurance industry will
receive more in revenue than the policyholders.   However, the purpose of insurance is to protect
the insured against calamitous risk.  To conclude that the insurance companies’ revenues exceed
farmer indemnities during a four-year time span is irrelevant.

Faulty Cost Comparison of CAT program

     On page 9 of the report, the OIG claims that the Federal costs of the catastrophic
insurance program (CAT) for 1998 "were estimated to be about $443 million."   The figure
grossly overestimates the Federal cost of the CAT program.  The Federal cost of the CAT
program is the sum of indemnities paid ($106 million) plus expenses for loss adjustment (14
percent of imputed premium or $50 million) plus underwriting gains (estimated at $110 million).
This totals $266 million for the 1998 crop.  The catastrophic administrative fees paid by farmers
are not a Federal cost, since the fees are paid by the farmer to the insurance company as an
administrative fee.

A Failure to Recognize Program Changes

     In addition, the report fails to mention that beginning in 1999 the administrative fees will
be paid to the government, rather than the insurance companies, even though the government
does not administer the program.   Nor does the report mention that the loss adjustment
reimbursement is reduced in 1999 from 14 percent of imputed premium to 11 percent (a
reduction of 21 percent).  Finally, throughout the report, the OIG mistakes returns from
underwriting as administrative expenses.  Losses and gains from underwriting insurance policies
accrue because the insurance companies are placing their own capital at risk.  They should not be
confused with the administrative payments that the government makes on behalf of farmers to
the companies to administer the crop insurance program.

Misstatement of Program Costs

     The report also claims on page 9 that the total crop insurance program cost is $2.1 billion
for the 1998 crop.  Again, this reflects a basic misunderstanding of the program.  The 1998 crop
year expenses are the sum of the indemnities paid ($1.6 billion) plus delivery payments ($427
million) minus farmer paid premium net of underwriting gains ($610 million) plus RMA
administrative expenses ($64 million) for a total of $1.5 billion.  The Federal budget is calculated
on a cash basis and premium subsidies are a book-keeping matter that do not result in a Federal
outlay.  The numbers on page 10 of the report continue to reflect this basic misunderstanding of
the program's costs and the resulting comparison with GAO's 1997 report is inaccurate as a
result.

Selection of An Unrepresentative Base Period

     To best describe the specious analysis in Figure I, I would point to your words on page 4
of the report: "[W]e feel that 5 years does not provide adequate history for actuarial purposes."  It
is unfortunate that you do not follow your own standards.  Figure 1 is grossly misleading.  It
makes a comparison between "Company Revenue" and "Producer Indemnities" over a four year
time span that represents the lowest consecutive four years of losses ever experienced in this
program.  The loss ratios from 1995 through 1998 are 1.02, .81, .51 and .86 respectively.  Prior to
1995 the historical loss ratio for the program was roughly 1.4.  As a result, the underwriting gains
accruing to the companies are larger than historically experienced and the indemnities claimed by
farmers are lower.  To suggest that this is typical or that it will continue is similar to GAO's claim
in its 1997 report that commodity prices will not decrease (we have seen how accurate that
prediction was this past year).

The “Immaterial Share of Risk”

     The report goes on to conclude that private companies have an "immaterial share of risk"
and therefore "little incentive to protect the Government's interest."  The report fails to mention
the changes in the risk-sharing arrangement between USDA and the companies resulting from
the 1998 SRA negotiation.  Within the "working layers" of the SRA (loss ratios between .5 and
1.6), the companies exposure to loss and opportunity for gain ranges from 25 percent to over 90
percent of the actual underwriting result.  It is not clear that anyone aside from the OIG would
claim this is immaterial.  The companies’ interest is aligned with the Government’s interest to
administer the policies in such a way as to pay what is appropriate, and no more.

     But the report does go on to conclude that: "RMA must assign a greater share of risk to
the reinsured companies" in order to "correct the abuses found in policy sales and loss
adjustments."  The report provides no analysis for this conclusion.  No audit or investigation has
been conducted that would show that more risk sharing by the companies would correct abuses
found in the handful of cases actually mentioned in the report.  In fact, it is entirely possible that
greater risk sharing may result in companies ceding more premium to the government, which
would result in the government bearing more risk.  Moreover, many of the items referenced as
fraud in the report are actually Federal policy and procedural deficiencies that the companies
must follow, even as we bring the deficiencies to USDA’s attention.

Inaccurate and Nonsensical Comparison With FSA

     Instead, the report goes on to make a nonsensical and inaccurate comparison between the
administrative expenses of the Farm Service Agency (FSA) and the delivery expenses paid to the
companies plus the companies’ underwriting gains.  So, while first recommending that the
companies share more risk to correct program abuses, the report then recommends that it might
be better if the government delivered the program (the companies would bear no risk under this
scenario).  The government would, of course, bear all of the risk in this case.  The report fails to
mention the numerous OIG investigations of crop loss adjustment work conducted by the USDA
as it relates to crop disaster programs.

     Once again, the numbers used in the analysis are wrong. The report claims that the FSA
administrative expenses for almost 15,000 employees located in 2,500 field offices in 1998 are
$721 million.  The 1998 FSA administrative expenses are, in fact, slightly under $1 billion in
1998 and over $1 billion in 1999.  The appropriated amount in 1998 to the FSA administrative
account is $701 million; however, the agency also received $294 million in transfers from other
accounts, for example, the Agricultural Credit Insurance Fund, which transfers over $200 million
annually for salaries and expenses to the FSA account.  These funds are used to support the
county office infrastructure and pay a portion of  the salaries of the 15,000 employees mentioned
in the report.

     The $1 billion salaries and expense figure should be compared to the $427 million paid in
1998 for delivering the crop insurance program.  Including underwriting gains in the comparison
is not accurate since the government would accrue these gains if it bears all of the risk (of course
Federal losses would be greater as well).

     Regardless of the inaccurate figures, the comparison makes little sense.  The programs
administered by the FSA are not comparable to the crop insurance program.  This would be
similar to comparing the OIG salaries and expense budget ($66 million) to that of the RMA
compliance office (roughly $7 million).

     Mr. Viadero, this type of inaccurate work does not enhance the current debate
surrounding the crop insurance program.  We need an informed debate so that the program can
be improved in the best possible manner for the American farmer.  We are committed to
providing the best possible insurance program to our customers and take program abuse very seriously.  We
would be happy to meet with you to explain how the program is budgeted and what the Federal
costs are for the crop insurance program.

Sincerely,

  /s/

Mike Miller
Chairman
American Association of Crop Insurers
 

MM/kc