Governors, the Cato Institute and Problematic Methodology

In the Cato Institute's recent "Fiscal Policy Report Card on America's Governors: 2008" author Chris Edwards gave Florida Governor Charlie Crist an "A" for his tax and spending proposals and accomplishments. In fact, Governor Crist was at the top of his class, earning Cato's highest score (84 out of 100) among all the governors. Crist's score was almost one-fourth higher than the second-ranking governor, Mark Sanford of South Carolina, who also received an "A" but managed to earn only 64 points out of a possible 100. Mr. Edwards clearly graded on a curve. The top ranking "F" student among the governors was Jodi Rell of Connecticut who earned 39 points.

Does Florida Governor Charlie Crist really deserve an "A" for fiscal probity as The Cato Institute contends? I don't think so. Here's why.

The methodology used in the Cato ranking obscures the true nature of the governors' fiscal policies by failing to take account of contingent liabilities put on the states' books during the governors' tenure. On the one hand, the Cato ranking gives governors credit and penalizes them for hypothetical policy changes they propose—points for proposing tax cuts and spending reductions and demerits for proposing tax hikes and spending increases—all of which are politically contingent upon adoption by the legislature. On the other hand Cato's methodology fails to factor in real contingent liabilities enacted into law during the governors' tenure—tax hikes, new borrowing and spending increases—that automatically take effect under specified circumstances. These contingent liabilities are fiscal time bombs just waiting to go off as Fannie Mae and Freddie Mac recently illustrated.

In the specific case of insurance regulatory policies, the contingent liabilities can be huge. For example, in Florida, Governor Crist has presided over the greatest expansion in taxpayer exposure in the state's history. This high-risk exposure came about when Governor Crist attempted to fix the price of insurance below actuarially sound levels by browbeating private insurance companies into a 15-percent cut in homeowners' premiums across the Sunshine State. Immediately, homeowners' insurance coverage began to dry up. Insurance companies fled the state, and those firms that remained dropped thousands of homeowners' policies that had suddenly became actuarially unsound under Governor Crist's price controls.

In order to provide insurance coverage to the insurance refugees who suddenly lost their coverage and came knocking at the statehouse door, Governor Crist offered lower property insurance rates to residents by socializing homeowner's insurance coverage in Florida and assuming enormous financial risks for the state. When a major hurricane hits Florida again, which is inevitable, state law now authorizes the sale of nearly $30 billion in bonds to cover the state's exposure.

To put the magnitude of this exposure into perspective, consider the fact that California with an economy two and one-half times larger than Florida holds the record for largest municipal debt offering of $11 billion. Florida taxpayers face now face exposure almost three times this size. Because of this enormous risk exposure, Florida's bond rating has fallen substantially since 2007.

The fiscal consequences of these policies already have begun to come home to roost. Early in 2008, Florida issued more than $5 billion in debt to build up the cash reserves of its so-called Cat Fund out of which insurance claims against the state will be paid—the state's largest-ever single debt issue, which increased the state's debt almost 20 percent. And the greatest irony is homeowners' insurance premiums in the Sunshine State continue to rise.

Had Cato factored the contingent tax increase on Floridians into its methodology, Governor Crist certainly would have received a failing grade. Eli Lehrer of the Competitive Enterprise Institute (CEI) put it succinctly: "There's a real chance that Governor Charlie Crist's recent insurance reforms could bankrupt the state."

Lehrer knows whereof he speaks. He was the principal investigator on another recent report put out jointly by CEI and The Heartland Institute ranking the states in terms of how their regulation of the insurance industry (a sole prerogative of the states under current federal law) burdens consumers and poses fiscal risks for state budgets. Florida came in near the bottom of the state rankings, receiving an "F" grade. Not only is Florida the only state remaining that directly dictates the insurance premiums private firms may charge for homeowners' coverage, it also has largely socialized homeowners insurance by entering the insurance business directly through a state agency that disguises itself as an insurance company—the Florida Citizens Property Insurance Corporation.

Unlike private firms that must measure risk actuarially and provide financial reserves to pay claims through risk-based premiums and conservative investments, the state simply relies on the taxpayer as its cash cow when the time comes. According to the CEI/Heartland report:

"Citizens [Insurance Corp.] has been given the authority to impose taxes on every insurance policy issued anywhere in the state of Florida. When it sustains a substantial loss—more than 10 percent—it has the unilateral power to impose taxes (called 'assessments') sufficient that 'the entire deficit shall be recovered through regular assessments of ... insurers [and] insureds (sic).' State law places no limits on these taxes and applies them to everybody in the state, including people who have never done business with Citizens."

If a law like that doesn't deserve an "F" grade for fiscal probity, I don't know what does.