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What’s Fair?

What’s Fair?

By Steve Alpert

The actuarial profession has to navigate the dynamic tension created by two concepts that are at the heart of financial security programs: fairness and security.

Fairness can be defined as being free from bias or injustice, as being evenhanded. But financial security programs also need to be secure in the long run, which means that participation must be priced in such a way to ensure the solvency of the program.

A recent front page article in The New York Times, “In Flood Policy, Maps vs. Reality,” highlighted this tension and illustrated the opportunity the profession has to contribute to the public good. At issue is the Federal Emergency Management Agency’s (FEMA’s) proposed update to New York City’s flood maps, which were last updated in 1983. This was before the increased prevalence of extreme climate events became apparent and before historic storms like Superstorm Sandy, which caused catastrophic damage in many low-lying coastal areas in the greater New York area.

The proposed maps would have resulted in a potential doubling of the number of buildings in high-risk areas, which would force owners to buy flood insurance, often at significant cost; retrofit their homes; or do some combination of the two. The ultimate goal of these revised maps was twofold: to protect people and their property, thereby providing them with financial security, and to ensure the long-term solvency of the National Flood Insurance program by ensuring that risk is priced appropriately and that the federal government, and ultimately taxpayers, don’t backstop more of coastal homeowners’ risk than Congress intended.

Residents of New York City claimed that the new maps were “unfair” because the flood insurance was “too expensive” or that the inclusion of so many new properties in the potential floodplain would cause property values to decrease. New York City successful challenged FEMA’s proposed maps and in effect sent them back to the drawing board. Part of the city’s technical challenge to FEMA’s maps included an assertion that FEMA’s assumptions (expected values) were incorrect, even though FEMA acknowledged that there was a significant potential for uncertainty or variability in its assumptions.

In this example we have at least three perspectives on fairness: Can the insurance program (and by extension in this case, U.S. taxpayers) collect a “fair” premium so that it remains stable and solvent? Do individual homeowners believe they are being treated fairly and not subject to a sudden and large decrease in wealth due to a government action? Does the city believe it is being treated fairly with regard to social goals, such as being able to house residents or provide an environment for economic growth?

The tension between providing financial security and the perceived fairness of how the costs of that security are allocated exists in all areas of actuarial practice. This is why financial security programs in which the public routinely participates attract attention from regulators, competitors, and consumers and why actuaries appreciate that assessing fairness can affect both principals and the public.

As a profession, we have long recognized our unique role in helping the public find the right balance between the security and fairness aspects of financial security programs. In 1977, nearly a quarter century before our current Code of Professional Conduct was adopted by all of the U.S. actuarial organizations, a report of the Academy’s Special Committee on the Public Responsibility and Education of the Actuary stated that actuaries “perform a unique and necessary social function” because we must balance “the needs of (a) insurance policyholders and employee benefit plan participants, and (b) the sponsors and guarantors of such benefit promises.”[1]

In my presidential address, I talked about the importance of having the perspective to ask the right questions (primarily on behalf of the public) in addition to being able to provide good answers to the questions we are asked (primarily by principals). In my previous article, I talked about the great value the public places in the general attributes of professionalism—honesty, integrity, reliability, ability to communicate, adherence and enforcement of norms and standards, and the ability to assess and communicate risk and adapt to changing circumstances. Our “web of professionalism”—the Code of Conduct and standards of qualification and practice, supported by a discipline process—equips us with the tools needed to achieve that perspective and approach client demands from a perspective of objectivity and ethical bearing. As the Academy’s Council on Professionalism explained:

“Professional conduct requires competence, integrity, objectivity of a high order, and a commitment to service. These are necessary to assure users of actuarial services that they will receive the benefits of sound actuarial judgment on such important issues as the financial stability of insurance, pensions, and other benefit programs.”[2]

To achieve this goal, the Code of Conduct describes the contours of the actuary’s professional independence and the foundations of the actuary’s professional objectivity. For example, the Code makes clear that, regardless of the demands of an actuary’s principal, an actuary may not provide actuarial services if the actuary has reason to believe they will be used to violate or evade the law, if the actuary is not qualified, or if the actuarial services do not comply with standards of practice. All of these limitations on the provision of the actuary’s service indirectly benefit parties other than the actuary’s principal “by enhancing the quality and reliability of the actuary’s work.”[3] Annotation 8-1 even requires an actuary to present work clearly and fairly in a way that “recognize[s] the risks of misquotation, misinterpretation, or other misuse.” In this way, Precept 8 “specifically appears to place the interests of other users of the actuary’s work ahead of the interests of the principal if the principal is attempting to misuse the actuary’s work.”[4]

Beyond the Code, actuarial standards of practice (ASOPs) also require the actuary to consider context and the effect of the actuary’s work on intended users. ASOP No. 41, Actuarial Communications, for example, requires us to “consider what cautions regarding possible uncertainty or risk in any results should be included in the actuarial report.”[5]

A commitment to professionalism means maintaining an independence and objectivity so that the “fairness” questions arising from the short-term wants of our principals—or the populist urges of politicians—do not define the work we do. As members of the actuarial profession, each of us needs to exercise judgment and professionalism in framing the work we undertake on a daily basis and show that we understand the context of the public’s concerns about the safety and reliability of financial security programs. In many cases, this requires actuaries to distinguish between what a principal wants to hear from what the principal needs to know.

In a recent “Up to Code” article, Actuarial Board for Counseling and Discipline member John Tierney relates an anecdote that captures this distinction perfectly. Despite “much shouting, desk pounding, and an occasional flying object” to punctuate a CEO’s clear preferences—what the CEO wanted to hear—about the company’s reserves, Tierney stuck to his professionalism and standards of practice and delivered the actuarial opinion that the CEO needed to hear to maintain actuarial reserves at a level needed to protect the company’s ability to meet the financial security promises it had made to its customers.[6] As Tierney’s example illustrates, this may require an actuary to have a tough discussion with a client from time to time. But acting with professionalism and integrity can provide lasting value to the public and, certainly in Tierney’s case, a long, well-regarded career for the individual actuary.

The public values actuaries’ professionalism at the individual level and as a profession. By following our standards of conduct, qualification, and practice for individual assignments, our work has credibility and we reassure the public that risks and consequences have been appropriately considered and programs and policies are “fair.”

And, when we speak as a profession through the Academy, applying the spirit of professionalism—non-partisan objectivity and independence—we can also demonstrate that we have the perspective to ask the questions that will lead to reliable and sustainable financial security programs. Our reputation for objectivity and independence allows us to enjoy the trust of legislators, regulators, and the public. The independent and objective information we provide, based on the principles of professionalism enshrined in the Code, provides context for stakeholders to understand the issues involved and make their own informed decisions about what is safe and what is fair.

Endnotes

[1] American Academy of Actuaries, Special Committee on the Public Responsibility and Education of the Actuary; May 31, 1977; p. 2.

[2] American Academy of Actuaries, Council on Professionalism; Structural Framework of U.S. Actuarial Professionalism; October 2004; p. 7; http://actuary.org/files/imce/framework6.29.16.pdf.

[3] American Academy of Actuaries, Council on Professionalism; The Actuary’s Relationships With Users of a Work Product; 2003; p. 8; http://www.actuary.org/files/whitepaper.8.pdf/whitepaper.8.pdf.

[4] American Academy of Actuaries, Council on Professionalism; The Actuary’s Relationships With Users of a Work Product, 2003; p. 9; http://www.actuary.org/files/whitepaper.8.pdf/whitepaper.8.pdf.

[5] Actuarial Standard of Practice No. 41, 3.4.1.

[6] John Tierney; “Lessons Learned”; July/August 2017; p. 17.

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