The Allocation of Governmental Regulatory Authority : Federalism and the Case of Insurance Regulation

Using data on the annual resources of state insurance departments we investigate several issues regarding the state production of insurance regulation. First, we demonstrate that the majority of insurance transactions are conducted across state lines suggesting there are potential trans-state externalities in insurance regulation. Second, we estimate a non-cost minimizing cost function of insurance regulation and find that there is a range of economies of scale in the production of insurance regulation and few, if any, economies of scope. Further, we find insurance regulators are not efficient producers of regulation. Using results from the regulatory cost function we find evidence of trans-state externalities as states with small domestic insurance markets are less efficient producers of insurance regulation and appear to be free-riding on those states which choose to expend the greatest resources on insurance regulation. Finally, states with elected insurance commissioners are found to be less efficient producers suggesting the incentives governmental officials have to efficiently utilize public resources may be a function of how the official obtained the office