Commission on Health and Safety and Workers’ Compensation
Workers’ Compensation and the California Economy

Introduction

At its December 1999 meeting, the Commission on Health and Safety and Workers’ Compensation (CHSWC) voted to engage in a project to analyze workers’ compensation benefit costs in relation to the larger California economic picture.

Various proposals to increase workers’ compensation benefits have been submitted to the Legislature. Concerns have been expressed that increases in benefits would have a negative impact on the California economy and on California employers and employees. This paper is intended to provide information and analyses of workers’ compensation costs in relation to the California economy.

Scope

Workers’ compensation costs and benefits will be presented in relation to various economic indicators, such as total payroll, California’s Gross State Product, and personal income. Information regarding workers’ compensation cost as a percent of payroll by industry group is also included. These analyses take into account the growth of costs that led WCIRB to recommend increases in the premium rate.

Data utilized in these analyses were derived from a variety of sources, including the Legislative Analyst’s Office, the Office of Economic Research, the Department of Finance, the Division of Labor Statistics and Research, the Workers’ Compensation Insurance Rating Bureau of California, the California Workers’ Compensation Institute and other organizations. Frank Neuhauser of the Survey Research Center at the University of California at Berkeley contributed his expertise and technical models.

Background

According to the report "California: An Economic Profile", published January 2000 by the state Office of Economic Research, California has the largest and most diverse economy in the nation.

In 1999, the state entered into its sixth year of expansion, a duration that has significantly exceeded all expectations. Especially interesting is how the California economy has been changing during this expansion. From an economy that was heavily dependent on aerospace and defense-related jobs in manufacturing and government, California has a much more diverse and knowledge-based service economy. By 1996, this new economy had replaced all jobs lost in the recession with new jobs in a variety of traditional and emerging industries.

California’s recent employment performance

"California's Fiscal Outlook: Legislative Analyst Office’s Projections 1999-00 to 2001-02", published November 17, 1999, reports that

 

During the past 12 months, California wage and salary employment has increased by about 3.5%. In the previous years between 1990 and 1998, California employment grew by 7.3%. The chart on the next page shows changes in California jobs in various sectors between 1990 and 1998, and between the third quarter of 1998 and the third quarter of 1999.

The economic crisis in Asia had negative impacts on California’s manufacturing sector, where the number of jobs fell by 2.8% between the third quarter of 1998 and the third quarter of 1999.

Job losses were particularly evident in the electronics and aerospace sectors. According to Department of Finance data, wage and salary employment decreased by about 6.1% and 2.4% respectively in the last 12 months.

Widespread job gains were realized in non-manufacturing industries, such as construction, services, finance, and transportation. According to Department of Finance forecasts, construction and services are expected to increase by 4.3% and 4.6% respectively between 1999 and 2000.

Software side of computer industry experienced particularly healthy growth during the year. For example, the business services sector is up about 7% from the prior year, reflecting major gains in software development, computer systems design, and internet related business.

Home sales and new construction continue to rebound during the first three quarters of 1999. Withholding receipts, which provide a good indication of current trends in wages and stock-option income, were up 14% in the July through September period.

 

California’s Economic Outlook – Short Term (1999 through 2001)

For the short term (1999 through 2001), it is expected that economic growth in California will follow the same general pattern as for the nation, with income, employment, and spending expanding by solid, but moderating, rates through 2001.

Economic growth in California is expected to exceed the national average significantly during this period.

While home construction is expected to slow nationally, strong demand should keep home building on an upward track in California through the forecast period, 2005.

California’s computer and electronics manufacturers will likely benefit from improving economic conditions in Asia, and the expected continuation of generally strong business investment in high-tech labor-saving equipment.

California’s Economic Outlook – Long Term (2002 through 2005)

California’s economy is expected to grow at a moderate pace through 2005.

Economic growth in California is expected to continue to exceed that of the nation as a whole, reflecting faster population growth and the state’s favorable mix of high-tech industries.

California’s Workers’ Compensation Costs

California’s workers’ compensation costs for all California employers for the past decade and projected into the future are shown in the chart below.

Note that workers’ compensation costs decreased from 1992 through 1995 due in large part to declining claim frequency and the elimination of the minimum rate law governing workers’ compensation premiums. As "open rating" took effect, insurers competed for business by lowering the premium rates.

Increases in the costs from 1995 to 1998 are due in part to the growth of the California workforce. Projected increases in cost from 1999 to 2005 also take into account projected workforce growth. These estimates reflect underlying cost increases calculated by the Workers’ Compensation Insurance Rating Bureau of California (WCIRB) that led WCIRB to recommend increases in the premium rate.

Please note that these estimates would be lower if they were indexed for inflation.

Appendix A contains a description of how costs were calculated for 1990 through 1998 and estimated for 1999 through 2005.

Costs of Benefit Alternatives

For the purposes of illustration, this section will compare the impact of four benefit increase alternatives. The costs shown in the previous section are the ‘baseline’ costs here. Benefit alternative B1 would add $0.5 billion to the baseline costs in each year from 2001 through 2005. Benefit alternative B2 would add $1 billion to the baseline costs in each year from 2001 through 2005. Benefit alternative B3 would add $0.5 billion to the baseline costs in 2001, $1 billion in 2002 and 2003, and $1.5 billion in 2004 and 2005. Benefit alternative B4 would add $0.5 billion to the baseline costs in 2001, $1.0 billion in 2002, $1.5 billion in 2003, $2.0 billion in 2004, and $2.5 billion in 2005. Please note that these benefit alternatives do not differentiate among the different types of benefits (temporary disability, permanent disability, medical) nor do they forecast impacts on specific industries.

These four alternative increases are summarized in the table below:

Benefit Increase Alternatives

Year

Alt. B1

Alt. B2

Alt. B3

Alt. B4

2001

$0.5 billion

$1.0 billion

$0.5 billion

$0.5 billion

2002

$0.5 billion

$1.0 billion

$1.0 billion

$1.0 billion

2003

$0.5 billion

$1.0 billion

$1.0 billion

$1.5 billion

2004

$0.5 billion

$1.0 billion

$1.5 billion

$2.0 billion

2005

$0.5 billion

$1.0 billion

$1.5 billion

$2.5 billion

The following chart shows a comparison among the alternatives and the ‘baseline’ cost calculated in the previous section.

Costs of the current workers’ compensation benefit structure are shown as baseline costs. Costs of various benefit alternatives are shown as B1, B2, B3, and B4 costs.

Workers’ Compensation Costs Compared to Total Payroll

Payroll is probably the best measure against which to compare the cost to employers and labor of workers' compensation. Payroll is the most significant variable cost faced by employers. Employment and wage decisions are made after considering the full cost of an employee, including wage, benefits (health insurance, pension, workers compensation, etc.) and comparing that to a worker's expected productivity.

Using payroll also keeps in perspective that benefit costs tend to rise with wages, and comparing workers' compensation costs to payroll will tend to remove overall wage and employment trends from the evaluation of whether benefits are rising or falling. For example, if benefits remain fixed, but wages rise, cost as a percent of payroll will decline (as will workers' replacement rates). On the other hand, if benefits are indexed to wages (e.g., the state average weekly wage) then benefits as a percent of payroll (and workers' wage replacement after injury) will tend to remain steady over time.

The following chart compares total payroll in California to the baseline workers’ compensation costs during the period 1990 through 2005. Note that the total payroll is plotted on the right axis. The workers’ compensation baseline costs are plotted on the left axis. (If payroll and costs were plotted on the same axis, the columns for payroll in the graph below would be ten times their present height.)

As can be seen, the rate of increase of workers’ compensation costs is significantly lower than the rate of increase of total payroll. Consequently, workers’ compensation costs as a percentage of payroll has declined substantially, as shown in the following graph.

 

After peaking in the early 1990s at slightly over 3% of payroll, workers’ compensation costs have declined to under 2%. The decline was driven primarily by declining claim frequency. In the absence of a change in benefits, costs are projected to continue declining, driven mainly by increasing wage rates subject to fixed benefit maximums.

See Appendix B for a table of workers’ compensation costs (with and without various benefit alternatives) as a percentage of total California payroll.

Workers’ Compensation Costs vs. Payroll among Industry Groups

These overall average costs mask substantial variation across broad industry groups. For the construction industry, workers compensation costs peaked at over 10% of payroll in 1991 while for professional and clerical professions, costs, even at their peak, were less than 1% of payroll.

However, for all industries, the significant downward trend of workers’ compensation costs as a percentage of payroll can clearly be seen in the following graph.

Workers’ Compensation Costs compared with Other Economic Indicators

Although ‘total payroll’ is the preferred indicator against which to compare workers’ compensation costs, comparisons of workers’ compensation costs against other economic measurements result in similar findings.

For example, when comparing workers’ compensation costs against the Gross State Product, we find that ‘baseline’ costs have dropped from 1.40% of GSP in 1990 to 0.89% of GSP in 2000.

 

Similarly, when comparing workers’ compensation costs against the Total Personal Income, we find that ‘baseline’ costs have dropped from 1.73% of Total Personal Income in 1990 to 1.10% of Total Personal Income in 2002.

 

Workers’ Compensation Benefits

Impact of Employment Growth on a Benefit Change

This section concerns the effect of employment growth on the estimated impact of benefit increases. That is, if employment (or another economic dimension) grows, then the dollar size of a benefit increase will be larger, simply because the economy was larger.

The benefit increase will be larger in dollars (not percent change) because the economy is larger. However, the effect is a second order condition that changes the numbers only slightly and the percent change not at all. For illustration purposes only, a simplified example follows where we look at employment change in a growing economy and the impact on estimates of a benefit increase.

(PLEASE NOTE: This Chart is for Illustration Purposes Only)

  Initial Year

Future Period

    Baseline:

No benefit increase

With 10% benefit increase

Difference

   

With 5% employment growth

Employment 10 Million 10.5 Million 10.5 Million  
WC cost per worker $1000 $1000 $1100  
Total WC cost $10 Billion $10.50 Billion $11.55 Billion $1.05 Billion
   

Without employment growth

Employment 10 Million 10 Million 10 Million  
WC cost per worker $1000 $1000 $1100  
Total WC cost $10 Billion $10 Billion $11.0 Billion $1.00 Billion
Difference due to employment growth: $0.5 billion $0.55 billion $0.05 Billion

The chart above shows briefly the impact of employment growth on estimates of the size of a benefit increase. Here we are applying a 10% benefit increase. Employment growth makes the size of total WC costs larger, but this affects the baseline costs as well as the estimate of costs after application of a benefit change. For the most part, these two effects cancel out.

So a 10% benefit increase raises costs by $1 billion in a system with no growth in employment and $1.05 billion when there is 5% employment growth. In this example, the effect of the employment growth on a $1 billion benefit increase is $50 million.

Impact of Changes to the Permanent Disability Benefit

Permanent Disability benefit payment levels have been adjusted several times since 1984. These adjustments have included changing both the weekly maximum and the number of weekly payments. In addition, greater distinction was drawn between disability levels by adding higher maximum benefit levels for more severe claims. At the same time, inflation reduced the value of benefits.

The maximum weekly benefit level was increased most for the very highest disability levels. Because the highest disability categories include a small fraction of PD claims, the impact of the increases since 1991 for the majority of PD recipients have been more than offset by the effect of inflation on the value of the benefit.

Overall, the value of the benefit after adjustment for inflation has declined to about 80% of its value in 1984, as illustrated in the chart below. Appendix C contains a complete description of the methodology used.

PD Changes by Rating Level

The benefit increases that went into effect from 1992 to 1996 applied in the main to the higher permanent disability ratings. For the highest PD interval 70-99.75%, benefit levels were increased substantially, enough that even after the effects of inflation, the level of benefit exceeded that in 1984.

However, for the lowest PD ratings, those under 15%, no benefit increase has been enacted since 1984 and the inflation adjusted value of the benefit is 60% of what it was in 1984. The following chart shows the inflation-adjusted value of the PD benefit for each interval relative to 1984.

In summary, the value of the permanent partial disability benefit has declined by 20% in the last 15 years. This has been most seriously felt by the over 40% of permanent disability participants who receive ratings under 15%. For this group of lower rated claims, the inflation adjusted value of the benefit is 60% of what was paid in 1984.

 

Workers’ Compensation Insurance Market

California’s Workers’ Compensation Premiums

The WCIRB estimates, based on a reported $5.2 billion of written premium through September 30, 1999 (prior to the application of deductible credits), that the written premium for calendar year 1999 is approximately $7 billion.

Indemnity Claim Frequency

The following chart shows how the indemnity claim frequency has changed from accident year to accident year. Decreases have been noted since 1991-92.

The decline in frequency has continued despite the robust growth in the number of persons employed in the California economy.

Estimated Ultimate Total Loss Per Indemnity Claim

The Workers’ Compensation Insurance Rating Bureau of California (WCIRB) has published the following estimates of the ultimate total loss per indemnity claim by accident year, as of September 30, 1999.

The WCIRB predicts that the average cost of a 1998 indemnity claim will be $26,940, which is 9% greater than in 1997 and 49% greater than in 1994. Please note that the ‘mix’ of injuries may have changed during this time, which could have led to higher average costs. Certain types of injuries, such as stress injuries, may have decreased substantially.

According to the WCIRB, both average indemnity and medical claim costs have shown significant increases over the last several years, as shown on the following graph. (CHSWC does not have access to data to verify these estimated increases in average claim costs.)

Please note that these cost estimates have not been indexed to take into account wage increase and medical inflation. The Medical Price Index compiled by the US Department of Labor’s Bureau of Labor Statistics (BLS) is not directly applicable to medical costs in California’s workers’ compensation. Also, workers’ compensation costs operate within fee schedules, which are likely to have an effect on price increases, which again may not be reflective of price changes in the general health arena.

For purposes of illustration, the following chart depicts total losses indexed for inflation -- medical costs are indexed by the Medical Price Index from the BLS, and the indemnity costs are indexed by the Consumer Price Index (CPI). However, please note that the Medical Price Index compiled by the US Department of Labor’s Bureau of Labor Statistics (BLS), is not directly applicable to medical costs in workers’ compensation. The BLS MPI reflects increases in the costs of medical procedures for all patients nationwide, not just for workers’ compensation in California.

Source: Division of Workers’ Compensation

Data for the chart above was adjusted for inflation using the following indices:

Medical Inflation Index and Consumer Price Index, by year

Index

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

CPI

121.1

127.4

134.6

138.1

142.6

146.2

150.3

154.4

159.1

161.6

MPI

143.8

155.9

171.0

184.3

196.4

206.4

216.6

225.2

231.8

238.1

 

Workers’ Compensation Premiums Compared with Insurer Loss and Expenses

According to the Workers’ Compensation Insurance Rating Bureau of California, the following table shows the total workers’ compensation premium amounts paid by employers compared with the estimated ultimate losses and expenses borne by insurers.

 

Accident

Year

WC Premiums

(million$)

Estimated Ultimate Losses

(million$)

Expenses

(million$)

1989

$7,520

$5,114

$1,955

1990

$8,044

$6,210

$2,172

1991

$8,306

$6,794

$2,331

1992

$8,353

$5,480

$2,673

1993

$8,773

$4,571

$2,720

1994

$7,658

$4,373

$2,604

1995

$5,826

$4,643

$2,039

1996

$5,754

$5,121

$2,187

1997

$6,187

$5,847

$2,351

1998

$6,459

$6,440

$2,648

 

 

 

 

 

 

 

 

 

 

 

 

Source: Workers’ Compensation Rating Bureau of California

California’s Industrial Injuries and Illnesses

Since 1994, the number of disabling work injuries has continued to decline even though California’s economy was growing.

This improvement has been ascribed to a number of factors including shifts in the workforce, greater emphasis on work-place safety, continued efforts to combat workers’ compensation fraud, and changes in employer reporting patterns.

Occupational Injuries and Illness Lost Time Rates by Industry

Injury and illness lost time rates in all industries have declined in total by 48% between 1988 and 1998. The largest decreases in rates over the decade were seen in the wholesale trade, retail trade, manufacturing, and mining industries with rates of decline of 63%, 56%, 55% and 55% respectively.

 

Occupational Injuries and Illness Lost Time Rates by Sector

The occupational injury and illness lost time rates in the private sector have declined overall in the same decade, except for a period of leveling off from 1996 to 1997.

Those rates in the State and Local government sectors declined by approximately 40% between 1988 and 1998, leveling off in 1997 and 1998.

 

Conclusions

 

Thanks and Acknowledgements

CHSWC gratefully acknowledges the cooperation and assistance of the Workers’ Compensation Actuarial Group in the preparation of this analysis:

 

Christine Baker, Commission on Health and Safety and Workers’ Compensation
David M. Bellusci, Workers’ Compensation Insurance Rating Bureau
Mark Gerlach, California Applicants’ Attorneys Association
Lawrence K. Law, Workers’ Compensation Insurance Rating Bureau
Suzanne P. Marria, Department of Industrial Relations
Frank Neuhauser, Survey Research Center, UC Berkeley
Joanne M. Ottone, Tillinghast
Glenn Shor, Division of Workers’ Compensation

Thanks also to the CHSWC staff

 

Christine Baker, Executive Officer
Kirsten Strömberg, Research Program Specialist
Irina Nemirovsky, Research Assistant
Janice Yapdiangco, Staff Services Analyst

Appendix A

Estimating Costs

An estimate of the cost of workers’ compensation as a percent of employer payroll requires the construction of time series data on both insured employer and self-insured employer costs. Because the data are presented as employer costs relative to payroll, the estimates developed here are for the ultimate cost to employers. For insured employers, these costs are represented by net premium (premium after dividends and rebates). For self-insured employers premium data are not available, consequently, employer costs have to be estimated based upon the relationship between direct loss costs (indemnity + medical) and actual employer costs (including administrative costs).

 

Insured employer costs:

1. For insured employers, historical data on workers’ compensation premiums for 1989-1999 were available from the WCIRB.

2. These numbers were available as costs before dividend/rebates. Data on dividend and rebates were not available by year at the time of this report. Instead, generally accepted estimated averages were used. 11% was used for the period 1989-1994. For 1995 to 1999, 2% was used as the estimate. Consequently, premia for insured employers were reduced by 11% and 2% respectively.

3. For the period after 1999, neither actual nor estimated premium data are available. Therefore, employer cost data needed to be constructed. The starting point is the WCIRB estimate of insured employer direct loss costs for the period 2001-2005.

4. Earlier, this author developed post-deregulation estimates for the multiple of employer costs (premium less dividends and rebates) over direct loss costs. This multiple has been an average 1.16. That is, employer costs averaged 1.16 times the direct loss costs estimated by the bureau. Therefore, employer costs for 2001-2005 were calculated as 1.16 times the WCIRB estimates for insured employer direct loss costs.

5. Neither estimated premium nor estimated direct loss costs were available to the author for 2000 at the time this report was written. Therefore, estimates for calendar year 2000 were calculated as the average of calendar years 1999 and 2001.

Self-insured employer costs

1. Both past and future self-insured employer costs are constructed as a multiple of employer estimated direct loss costs. Time series data on actual direct loss costs for self-insured employers is incompletely and inconsistently reported and unreliable for the calculations here. Consequently, self-insured direct loss costs are estimated as a fraction of insured employers’ direct loss costs for which consistent time series data are available.

2. The market share of self-insured employers was estimated in a separate paper by this author. The market share estimate for self-insured employers has changed since deregulation. Prior to deregulation, the market share estimate customarily used was 33%. Current estimates place market share at approximately 28%. Market share estimates for the self-insured market are reduced from 33% in 1994 to 28% in 1999 by reducing the market share 1% per year over this period. Direct loss costs for self-insured employers are then

(Insured employer loss costs) * (self-insured market share)/(insured market share)

3. The estimated direct loss costs are then multiplied by a factor which represents the difference between direct loss costs and employer actual costs. In the estimates presented here, we assume that the employer cost for self-insured employers has been a constant multiple of underlying direct losses. The multiple represents the combined effect of investment income and administrative costs. Insured employers’ premium-to-direct loss ratio in the competitive post-deregulation period is probably a close approximation of long-term self-insured actual cost-to-loss cost. Self-insured employers may obtain some savings over insured employers on premium taxes and commissions. Many observers feel, however, that the insurers have priced insurance below cost in the post-deregulation market. Consequently we use the post-deregulation multiple of 1.16 calculated for insured employers to adjust self-insured employers direct loss costs to actual costs.

4. Direct loss costs were not available to the author at the time of this report for insured employers for 1999 and 2000. Therefore, the self-insured employer costs were averaged across 1998 and 2001 to create the estimates for 1999 and 2000.

Total employer costs and total wage and salary income

1. Total costs are the combined actual and/or estimated costs for insured and self-insured employers for each calendar year.

2. Total wage and salary income is from actual figures (1989-1998) and projections (1999-2002) from the California Department of Finance (DOF). Projections for 2003-2005 were estimated using the wage and salary growth estimated by DOF for the last year of their projections (6.6%).

Industry group estimates

The relative relationship of employer costs between broad industry groups was developed by the WCRIB from 1995 and 1996 policy year data. These relativities are used to estimate employer costs as a percent of payroll for these broad industry categories. While these relativities are based on data for 1995 and 1996, to the extent that the relationship between industries is stable overtime, the relationships are applicable to other years.

It should be noted that the category "Professional and Clerical Services" represents more than half (55%) of all payroll for these industry groups.

Appendix B

Workers’ Compensation Costs with and without a Benefit Increase

Compared with Total Payroll

 

This table presents workers’ compensation costs as a percent of payroll. Column 2 is California wage and salary income. Column 3 is the estimated employer cost for workers’ compensation in billions of dollars. Cost divided by payroll gives column 4, workers’ compensation as a percent of payroll.

Columns 5-8 exhibit the cost of workers compensation as a percent of payroll for the years 2001-2005 under four different benefit increases, which are shown in columns 9 -12. The benefit increase in column 5 would raise workers compensation costs by $500 million each year. Column 6 represents a benefit increase that would raise costs by $1 billion per year. Column 7 shows the impact of benefit increases from $0.5 billion to $1.5 billion phased in over five years. Column 8 shows the impact of benefit increases from $0.5 billion to $2.5 billion phased in over five years.

Appendix C

Permanent Disability Benefit Levels Over Time

The following methodology was utilized to compute the value of the permanent disability benefit over time.

For this analysis, the value of the PD benefit for each calendar period was calculated for a rating at the midpoint of the permanent disability rating interval (.25-9.75, 10-14.75, 15-19.75, 20-24.75, 25-29.75, 30-49.75, 50-69.75, and 70-99.75).

The value was also calculated at the weekly benefit maximum, which applies to over 90% of the recipients.

These values were adjusted for inflation each year using the Consumer Price Index for California.

Finally, to get an overall value, each PD interval was weighted according to the percent of all disability ratings that fell in that interval.

The following chart shows the weighted average permanent disability award 1984 – 2000, expressed in 1984 dollars. The 1999 and 2000 amounts are estimated based on the projected change in the CPI.

 

These data can also be presented as a fraction of the value of the benefit in 1984. The following chart shows the value of the benefit relative to a value of 100% in 1984.