How Does Inflation Impact the Workers' Comp Market?

Summary: AmTrust’s latest webinar, Inflation and Other Macroeconomics Trends: How Do They Impact the Workers’ Comp Market? explains how inflation, the great resignation and the stock and bond market affect the workers’ compensation industry. Plus, our speakers respond to our attendees’ questions.

Inflation is impacting everyone. Every day, we feel the effects of inflation as we fill our gas tanks or shop at the local grocery store. It is not in the news, but inflation and other macroeconomic factors also impact the insurance industry, especially the workers’ compensation market.

AmTrust’s Matt Zender, SVP of Workers’ Compensation Strategy, and Bryan Ware, Director, Actuarial, recently presented the webinar, Inflation and Other Macroeconomics Trends: How Do They Impact the Workers’ Comp Market? Our speakers discussed various trends affecting the workers’ compensation market, including inflation, the changes in the labor market and the stock and bond market turbulence.

Workers’ Compensation Inflation Effects

The inflation rate started to grow in late 2021, continued in early 2022 and is projected to moderate by mid-2023. According to the U.S. Bureau of Labor Statistics (BLS), as of April 2022, the inflation number is 8.3%. Inflation is measured by the Consumer Price Index (CPI), which calculates the average change over time of prices for consumer goods and services. The high inflation numbers are due to many factors, but an overheated economy mostly drives it due to the trillions of dollars of COVID-19 stimulus money in the economy. Additionally, post-COVID-19 recovery, supply chain issues and labor shortages all have an impact. Higher energy costs are the largest category impacting the CPI, affecting the costs of vehicles, food and shelter. However, some categories, such as medical inflation, typically exceed inflation in the overall economy. Today, the medical inflation number is 2.9%.

Components of Workers’ Compensation Trends

Social inflation isn’t prevalent in workers’ compensation. But, there are economic trends that could impact workers’ comp, including:

• Lost Time Claim Frequency
• Medical Severity
• Indemnity Severity
• Wage Inflation

Also, extended medical inflation will affect the yearly losses more than is reflected in the pricing and can affect the runoff of prior years.

There are guards against runaway inflation for the workers’ compensation market:

• Regulated fee schedules
• Carrier negotiated fee schedules
• Settling claims
• No-fault system, with most claims not going through the court system

Labor Market

One notable trend in workers’ compensation is the changing workforce and population demographics contributing to the labor shortage companies began experiencing in 2021. Baby Boomers have started retiring, and a record number of Americans left their jobs beginning in November 2021, leading to a period known as “The Great Resignation.”

Labor shortages existed even before the pandemic, especially in blue-collar industries. Eighty-five percent of businesses with blue-collar workers reported staffing shortages and recruitment issues as early as 2019. When companies began reopening, many of these workers had reevaluated their lifestyles and decided against returning to an office building or job site full-time, even if that meant leaving and finding employment elsewhere.

Before the COVID-19 pandemic, unemployment was at historically low levels of 3.5%. As the world shutdown in April 2020, the U.S. unemployment rate peaked at 14.7%. Today, unemployment levels have returned to pre-COVID-19 levels and lower. In fact, as of April 2022, 20.8 million of the 22 million (or 95%) jobs lost because of the pandemic have been recovered.

Wage growth acceleration obscured the considerable loss in payroll exposures in 2020 due to the pandemic. Currently, there is a very tight labor market driving wage gains. The National Council on Compensation Insurance (NCCI) has determined that while the “great reshuffle” can cause the short-term anomalies we are seeing in the market now, it is unlikely to affect long-term frequency trends.

Short Tenure or New Workers Impact on Workers’ Comp

In 2021, the leisure and hospitality sector had the most significant percentage of short tenure or new workers. However, interestingly, the industries with short tenure workers with the highest tendency for injury was wholesale trade, followed by manufacturing. Workers in the leisure and hospitality industry have the largest quit rates at 5.7% compared to the financial and insurance sector, with a 1.6% turnover rate.

Due to the pandemic shutdowns, most businesses quickly switched to remote work. Today, professional and business services have the highest number of remote workers by industry. According to NCCI, remote worker injury frequency is low (down 20%) relative to on-site workers.

Impact of Interest Rates on Workers’ Compensation

The 10-year U.S. Treasury Notes yields have been below 5% for 15 years. During the pandemic, the Federal Reserve made emergency rate cuts. These pushed interest rates in 2020 to levels below the financial crisis during the Great Recession. With today’s strong economic recovery, inflation and Fed rate hikes are pushing yields up sharply. They should provide a modest boost to property and casualty insurer portfolio yields and longer-tailed lines as workers’ compensation.

Answers to Webinar Attendee Questions

We’ve compiled the questions webinar attendees had that we could not answer due to time constraints. Matt and Bryan took the time to review and answer the questions below.

Frequency has been on the decline for a number of years (30!), is COVID-19 a blip reversing that or might the trend continue?

We expect the trend to continue. The economic shutdown due to COVID-19 is causing disruption in the long-term pattern due to class mix shift and the movement of employees to new jobs/industries. But the drivers of the long-term frequency improvement are still embedded in the system.

Coming out of COVID-19, we're facing labor shortages, and those working are often inexperienced and overworked/fatigued. How will these factors affect workers’ compensation?

Inexperienced and overworked workers will increase the frequency somewhat. However, many of the people changing jobs are experienced in their industry but just moved to a different employer. These workers won’t have much effect on the frequency. To the extent the inexperienced workers are also younger, this may suppress severities, as younger workers heal and return to work faster.

While workers’ compensation has been profitable over the past five years, with Loss Costs dropping, profitability will be compressed. What then is the panelists' guess as to timing rate increases?

We think rate increases are likely in the next year or two. The bureau changes are liable to be mostly negative until 2023 at the earliest, but market forces are adding pressure to rates.

Historically medical severity has outpaced medical CPI. Why has this not been true in the recent past?

The CPI has been driven by energy costs recently. The CPI for these segments moves rapidly and is volatile. Medical is more stable and moves more slowly. It is “stickier.” So the energy CPI spiked, dragging the total CPI with it, above where the medical was. We expect the medical CPI will return to the historic patterns in the future after the total CPI drops.

Do you anticipate that the increased investment income and wages will offset the inflationary factors and keep carriers profitable while NCCI catches up, or do you think profit margins will start to get squeezed?

We do not think the investment income and wage inflation will offset. Both factors are built into the bureau rate making. In addition, the increased wages will be somewhat offset by the concurrent increases in indemnity losses. Continued competitive pressures will also reduce rates.

How would the agricultural (AG) sector match up against the findings being presented in the webinar?

The AG sector tends to act differently in many respects. This is due to both the seasonality of the product and the existential demand for their goods. We don’t have any data to share at this point to illustrate the difference, but it is a segment that we continue to track closely.

500k fewer in the job market, 100k have left due to staying at home. Why are others not coming back?

It appears to be because of a combination of early retirement and a higher death rate than average. Approximately 250K people between the ages of 18 and 64 died in the U.S. due to COVID-19. There have also been dual-income families who have sat around the kitchen table and determined that they can persist on one income, thereby prioritizing their views around quality of life.

Courtesy of AmTrust

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