Property insurance

Preface To The Second Edition

Although the plates of the first edition of the "Yale Readings in Insurance" as edited by the late Professor Zartman have been preserved, the publishers decided upon a re-editing of the " Readings " rather than a mere reprint. Careful study, however, has failed to suggest the wisdom of numerous or important alterations. The former editor made his selections carefully, the recent contributions to the literature of property insurance have been few, and there have been no important changes in the conduct of the business.

The report of the Merritt committee, which investigated the fire insurance business on behalf of the New York legislature, has supplied two new chapters to the present edition. Two other chapters were taken from KitchhVs " Principles and Finance of Fire Insurance," a work which is not less suggestive to American students because it deals primarily with English conditions. The four new chapters include two on the subject of finances, and one on inter-company organization, — subjects which were only incidentally treated in the former edition of the " Readings." Since the absence of cooperation among the fire insurance companies in the tabulation of experience is the most conspicuous evil which the companies could readily correct, a chapter describing tabular rating in Great Britain has been added to the articles urging scientific fire rating upon American companies.

vi PREFACE TO THE SECOND EDITION

It has seemed advisable to introduce an analytical table of contents, and this has rendered the alphabetical index superfluous.

The arrangement of the " Readings" has not been a simple problem. Articles prepared by numerous writers, working independently, are apt to overlap here, and fail to join there. At best they lack the unity of a treatise by a single writer. The order in which they are arranged must depend largely upon the material. In the former edition, following the precedent of the "Yale Lectures" published in 1904, articles on "miscellaneous" branches of insurance were appended to a compact group of articles on fire insurance. In this edition an attempt has been made to avoid this mixed group. The articles on liability insurance, government insurance, and workingmen's insurance have been transferred to the companion volume, which, in the new edition, adds other branches of personal insurance to life insurance. The present volume is therefore confined to the insurance of property. The two chapters on marine insurance have been placed at the beginning since marine insurance, by virtue of its less scientific character as well as because of historical reasons, serves as a convenient introduction to the subject of property insurance. Virtually all the succeeding chapters of this volume are devoted to fire insurance, — an emphasis which is justified by its relative importance, its elaborate organization, and its many perplexing practical problems. Steam boiler insurance is so largely a losspreventive service that it is appropriately considered in connection with the prevention of loss by fire. The intimate relation between the subject of prevention of losses and the theory of insurance would have

PREFACE TO THE FIRST EDITION vii

made it desirable to treat these topics consecutively at the beginning of the volume. This arrangement is being followed in the companion volume on personal insurance, but it has been found impracticable here.

William H Price

New Haven, June, 1913.

Preface To The First Edition

The "Yale Lectures on Fire and Miscellaneous Insurance" appeared five years ago. Although a considerable edition was printed, the unexpectedly large demand soon exhausted it, and as the plates were destroyed, for two years the lectures have been out of print.

It seems desirable that either a new edition of the lectures should be printed, or that something new should be published in their place. The latter alternative has been chosen, and instead of simply reprinting the old lectures, the plan has been adopted of selecting special readings, partly from the "Yale Lectures,' ' partly from other sources. This plan was preferred because the literature of fire and miscellaneous forms of insurance has been developing so rapidly that a much more comprehensive text-book can now be prepared than was possible a few years ago. By not confining this volume to a reprint of the old lectures, it has been possible to take advantage of the advance which has taken place in this literature. Only seven of the lectures in the old volume are reviii PREFACE TO THE YALE INSURANCE LECTURES

printed, and all but one of these have been extensively changed. Some of the matter now published has never appeared before, and much of the remainder has been revised.

The major part of this volume is devoted to the subject of fire insurance The general principles ininvolved in fire insurance are typical of those found in all forms of insurance other than life insurance. The miscellaneous forms of insurance, such as marine, steam boiler, employers' liability, and workingmen's insurance, are discussed to the extent that each introduces new methods and new principles into the business. In selecting these readings, the aim has been to avoid those authors who treat the subject in technical language, as well as those who make the subject more simple than it really is, and thus conceal its real problems. The broad selection of material would not have been possible without the cooperation of others. It is a pleasure to record the fine spirit of publishers in permitting reprints from copyrighted books, and the willingness of authors to revise articles where changed conditions made revision desirable.

Lester W. Zartman

New Haven,

August, 1909

Preface To The Yale Insurance Lectures

Published as reprinted from The Alumni Weekly, 1903-1904.

Yale University, in launching a course in insurance on lines not previously attempted, gave official recognition of the profound importance and signifi-

PREFACE TO THE YALE INSURANCE LECTURES ix

cance of the subject, considered both from the standpoint of society and the individual. Insurance had before been taught both at Yale and at other universities, but never on lines which entered so thoroughly and so deeply into the history, philosophy, economy and science of the subject. In opening this course, Yale broke new ground and the lectures which formed the main body of the course in insurance, of the Academic year 1903-4, brought together an amount of material on this subject which had never before been gathered in any such form or to any such extent.

This is said in full recognition of the large and most valuable body of insurance literature already in existence. It is the point of view taken in the preparation of this material which gives it its peculiar value to the students of the subject and to those who are interested in it either as a business or as a profession. The object of the course was to give the student such a knowledge of the fundamental principles of insurance and such a view of its extent and its methods of operation as would enable him to judge accurately of its power as an economic force, and would further prepare him for wise action when the duties of his profession or business required him to guard himself or others from possible loss. It was further intended to furnish a broad, preliminary view of insurance for those who intended to enter it later, either as a business or as a profession.

These two classes of men are found in very large quantities outside of the list of students of any and all American universities and the publication of these lectures is intended to give them, as well as those who are making an academic study of insurance, the advantages which were first given to the students of

X PREFACE TO THE YALE INSURANCE LECTURES

Yale who elected this course. It is also believed that these lectures will be welcomed by those who are actively engaged in insurance work because they put in such clear and interesting form many of the most important facts, principles and problems of the subject. In other words, it is hoped that the publication of these lectures will furnish not only a text-book for those who have the advantages of academic study but a source of information to the general student and of practical assistance to the insurance worker.

Those into whose hands this volume will fall will, we think, unite in grateful acknowledgment to all the men who gave their services in the preparation of these lectures out of their study and experience. To them the editors of this book certainly wish to render their sincere thanks for their cooperation in the preparation of the volume, and no less to the men, Mr. A. A. Welch of Hartford and Dr. John M. Gaines of New York, whose services in the difficult work of the quiz made the first and experimental year at Yale a success, and helped so materially to establish the lines on which this subject could in the future profitably be continued as an integral part of the education furnished by a university.

The Editors

Contents

MARINE INSURANCE

Chapter I. — History of Marine Insurance. By Solomon Huebner 1-38

- Marine underwriting not on a scientific basis, 1; importance of marine insurance to commerce, 2; the earliest branch of insurance, 3; bottomry loans, 3; marine insurance in Italy and Western Europe, 4; insurance law, 5; Lloyds, 6; marine insurance companies, 7; three-fold purpose of Lloyds, 7; the intelligence department, 8; publications, 8; corporation of underwriters, 10; organization, 11; underwriting routine, 12; re-insurance, 14; marine insurance in the United States, 14; in the eighteenth century, 15; the Insurance Company of North America, 16; other companies, 17; their vicissitudes to 1840, 18; prosperity, 1840-1860, 22; subsequent decline, 23; the iron steamship, 23; the Civil War, 23; the policy of Lloyds, 26; the entrance of foreign companies, 28; financial contrast between British and American companies, 29; underwriting statistics, 31; self-insurance, 36-38.

Chapter II. — The Policy Contract in Marine Insurance

By A. A. Raven 39-58

The perils covered, 40; letters of mart and counter-mart, 40; barratry, 41; the memorandum, 42; the underwriter, 42; warranties (implied), 43; the Harter act, 45; factors determining the premium, 45; average, general and particular, 46; jettison, 47; salvage, 48; written and printed portions, 50; valued, and wager, policies, 51; collision, 52; fire, 54; constructive total loss, 54; vessel, and freight, insurance, 55; charter, 55; insurance of profits, 55; settlement of losses, 56.

HISTORY OF FIRE INSURANCE

Chapter III. — History of Fire Insurance in Europe. By

Richard M. Bissell 59-69

Early history, 59; the great fire of London in 1666, 61; Barbon's Fire Office, 61; the Friendly Society, 62; the Amicable, or Hand-in-Hand, 62; Povey and the Sun Fire Office, 63; the Royal Exchange, and the London, Assurxii CONTENTS

ance Corporations, 64; fire protection, 65; patrols and brigades, 66; fire insurance on the continent of Europe, 67; the Code Napoleon, 69.

Chapter IV. — History of Fire Insurance in the United

States. By F. C. Oviatt 70-98

Fire insurance in England, 70; in Philadelphia, 72; the Philadelphia Contributionship, 72; perpetual insurance, 73; the Insurance Company of North America, 73; brick and frame hazards, 73; fire insurance in New York, 73; in New England, 74; the Hartford Fire Insurance Company, 76; its expansion, 77; the iEtna, 78; the multiplication of companies, 79; the New York fire of 1835, 80; the earliest classification of risks, 80; unearned premium legislation of Massachusetts and New York, 81; the rise of the mutuals, 82; the township mutuals, 83; the mill mutuals, 84; local boards, 84; fire patrols, 85; adjusters, 85; Western departments, 86; absence of adequate surpluses, 87; the National Board of Fire Underwriters, 88; the daily report, 88; special agents, 89; maps, 90; the Pacific coast, 91; the Chicago fire, 91; demoralization of rates, 92; rating boards, 93; the standard policy, 93; inspections, 94; sprinklers, 94; schedules, 95; inconvenient legislation, 95; taxes, 96; American Lloyds, 96.

THEORY OF INSURANCE

Chapter V. — Function of Fire Insurance. By Allan H. Willett 99-120

Insurance, 99; self-insurance, 100; accumulation of capital, transfer of risk, and combination, 100; the gain from combination, 101; illustration, 102; cheap insurance should normally result from large companies, 105; the estimation of risk, 106; cost of the insurance business, 106; prevention, 107; appraisal, 107; moral hazard, 107; erroneous conceptions, 108; prevention, insurance, and assumption of risk, 111; capital alone can insure capital, 113; mutual and stock companies, 114; relation of accumulations to risks, 115; insurance and productivity, 116; is all insurance mutual? 118; the place of insurance in economic theory, 119; summary, 120.

FIRE INSURANCE ORGANIZATION

Chapter VI. — Organization of Companies. By Richard M. Bissell 121-139

Local mutuals, 121; their formation, 122; their methods, 122; mutual surveillance, 123; low rates, 123; state mutuals, 124; not generally successful, 125; factory mutuals, 127; their progress after the Chicago fire, 128; their remarkable achievements in loss prevention, 128; their investigations,

CONTENTS xiii

129; imitated by the stock companies, 130; mutual contract not suitable in congested districts, 130; Lloyds, or voluntary partnership, 131; their reliability, 131; stock companies, 132; their administration, 133; field organization, 133; local agents, 135; examiners, 135; the auditing department, 136; the loss department, 137; district offices, 137; general offices, 138; brokers, 138.

Chapter VII. — Organization Among the Companies. From Merritt Committee Report 140-147

The National Board of Fire Underwriters, 140; the National Fire Protection Association and the Underwriters' Laboratories, 141; the New York Board of Fire Underwriters, 141; the New York Fire Insurance Exchange, 142; the Suburban Fire Insurance Exchange, 144; the Underwriters' Association of New York State, 145; the Buffalo Association of Fire Underwriters, 146; advisory raters, 146; the Eastern Union, and the Western Union, 147.

FIRE RATING

Chapter VIII. — Rates and Hazards. By Richard M. Bissell 148-180

"Risks" and their hazards, 148; physical hazards, 149; external hazards, 149; exposure hazards, 149; internal hazards, 150; spontaneous combustion, 150; operation of machinery, 150; processes, 151; heating and lighting, 151; carelessness, 152; sub-division of hazards, 153; moral hazards, 154; the foundation of basis rates, 156; apportionment of cost, 157; obstacles in the way of combined experience, 158; laGk of uniform classification, 158; changing processes, 158; new hazards, 159; new methods of light, heat, and power, 159; public hostility toward combination of any sort, 160; the individual risk, 161; judgment-rate system, 161; schedule rating, 163; elaborate analysis of risks, 163; partial loss and co-insurance, 164; standard building, and basis rate, 165; deficiencies and credits, 166; exposure, 166; penalty rating, 167; a typical schedule, 168; contents rates, 168; the rating of frame mercantile buildings, 169; the Universal Mercantile Schedule, 170; how prepared, 171; standard city, standard building, basis rate, and key rate, 172; occupancy charges, 173; the Dean Schedule, 174; its starting point, 174; percentage additions, 175; the differential for contents, 177; exposure formulae, 178.

Chapter IX. — Scientific Fire-Rating

I. By Miles M. Dawson 181-200

Theory of insurance, 181; classification of risks and computation of costs, 183; life insurance deficient in the former xiv CONTENTS

practice, fire insurance in the latter, 184; fire insurance rates and railway rates, 186; elaborate classification requires abundant data, 187; companies should pool their statistics, 189; how the data should be arranged, 189; the conflagration hazard, 190; conflagration reserves and safety funds, 191; tabular rating would prevent costly competition, 192; would disarm prejudice, 193; would have a steadying effect upon rates, 193; especially if cost schedules were accepted by state legislatures as standards of solvency, 194; would help to solve the commission problem, 194; would facilitate the adoption of participating rates, 196; would widen the scope of insurance, 196; and would probably result in great improvement in schedules, 198; the task not formidable, 200.

II. By A. F. Dean 200-208

Tabulation by individual offices, 200; table illustrating variations among different tabulations, 202; lists vitiated by careless compilation, 203; and by fluctuation of rates, 204; and by uncertain groupings, 205; these faults may be easily corrected, 206; obstacles, 206; reform inevitable, 208.

Chapter X. — Tabular Rating in Great Britain. By F. Harcourt Kitchin 209-224

Object of rates, to meet losses, 209; and to diminish losses, 210; differential rating in fire insurance, and ship-building under survey, 210; data in possession of individual companies, 212; how a tariff is framed, 213; high rates not desired, 214; list of British tariffs, 217; no systematic distinction between towns, 217; exceptions, 218; no standard city, 219; elaborate rules as to standard building, 219; example, — the cotton mills tariff, 220; investigations into the causes of fires, 222; same rate for building and contents, 224.

Chapter XI. — Discrimination and Cooperation in Fire Insurance Rating. By Lester W. Zartman

I. Discrimination 225-240

Good building a business proposition, 225; insurance rates determine the character of construction, 226; complexity of fire hazards, 227; development of scientific fire rating, 228; schedule rating, 229; still based upon judgment rather than evidence, 231; this accounts for abundant discriminations, 232; "preferred" risks, and "special" risks, 232; discrimination between classes of risks, 233; between localities, 235; between specific risks, 237; the disbursement of premium income, 238; fixed and variable expenses, 239; reductions for improved construction, 239; summary, 240.

II. Cooperation 241-249

Objects of cooperation, 241; "compact" rating, 242;

regulation of commissions, 242; supervision of risks, 243;

CONTENTS xv

study of hazards, 245; repression of incendiarism, 245; anticompact laws, 246; their unwisdom; 246; benefit only the powerful and shrewd property owners, 248; demoralization under unrestrained competition, 248; association not viewed with hostility in European countries, 249.

FIRE INSURANCE CONTRACTS

Chapter XIII. — The Nature op the Policy Contracts

By Richard M. Bissell 258-281

Policy covers actual immediate damage, 258; a personal contract, 258; insurable interest, 259; property must be carefully described, 259; good faith and candor on the part of insured, 260; evolution of the policy, 261; movement toward uniformity of policy, 262; the New York standard policy, 262; other standard policies, 263; commentary on the paragraphs of the New York policy, 263-272; interpretation by the courts, 272; little litigation, 272; "endorsements," 273; the mortgage clause, 273; partial loss, 275; the percentage-value clause, 276; the co-insurance clause, 276; the three-quarters loss clause, 278; the iron-safe clause, 278; the distribution-average clause, 279; specific, floating, general, concurrent, and perpetual policies, 280; diversity in state requirements, 281.

Chapter XIV. — The Co-Insurance Clause

I. By Francis C. Moore 282-287

Full co-insurance, 282; percentage co-insurance, 283;

illustrations of the fairness of co-insurance, 283, 285; distribution-average and co-insurance, 285.

II. By A. F. Dean 287-292

Over-insurance and under-insurance, 287; the need of a uniform relation between insurance and value of property, 288; co-insurance the almost universal solution, 288; prohibited by some of the United States, 289; co-insurance operates in favor of small proprietors, 289; specific insurance and "the blanket form with co-insurance," 290.

Chapter XV. — Valued-Policy Laws Valued-policy laws, 293; over-insurance and moral hazard

294; explanation of the legislation, 294; costly legislation, 297.

II. By D. A. Heald 298-303

Ohio statistics, proving that valued-policy legislation results in increased loss ratios, 299; Wisconsin figures to the same effect, 301.

xvi CONTENTS

III. From 31st Massachusetts Insurance Report . 303-8

Valued policies ought not to be permitted, 303; open indemnity preferable, 304; valued policy not a contract of indemnity, 305; heavy cost of initial valuation and frequent revaluations, 305; possibilities of fraud, 305; a wager con* tract, 306; companies not prone to litigate, 307.

FIRE INSURANCE FINANCES

Chapter XVI. — Fire Insurance Finance. By F. Harcourt Kitchin 309-322

Importance of limiting "lines" and distributing risks, 309; no luck in prudent fire underwriting, 310; the hunger for size, 310; expenses, 310; dividends come from interest rather than from insurance earnings, 311; wide range in annual profits, 312; British offices strive to maintain steady dividends, by holding large but fluctuating reserves, 312; reserves, 314; four functions of reserves, 315; reserves for unexpired risks should be listed separately, 317; how calculated, 318; in the United States, 320; the folly of paying dividends at the expense of reserves, 321.

Chapter XVII. — Expense Problems. From Merritt Committee Report 323-338

Distribution of expenses, 323; importance of the agent, 323; anomalous position of the agent, 324; his interest not identical with that^of his company, 325; competition among companies has largely taken the form of high commissions to agents, 326; "Union" commissions, 326; "Bureau" commissions, 327; commissions on preferred risks, 328; proposed legal limitation of commissions, 329; contingent commissions, 329; a standard of competency for agents, 331; expenditure for prevention, 331; brokers, 332; brokers act as expert advisers for their clients, 333; but are paid by the companies, 334; a standard of competency for brokers, 335; brokers' pledges, 336; brokers' commissions, 337; rebates, 338.

Chapter XVIII. — Conflagration Reserve. By A. W. 1 Whitney 339-347

The conflagration hazard, 339; rate covers hazard, expense, and profit, 339; except for conflagration hazard, fire insurance would be a business of great steadiness, 340; but with the conflagration hazard, the average for many cities and many years is far from stable, 340; the "surplus" of a fire insurance company is more properly a "conflagration reserve" (a liability), 341; this conflagration reserve should be determined by the amount of the risks exposed to a single conflagra-

CONTENTS xvii

tion, 342; only stock companies can meet the conflagration hazard, 342; a law for conflagration reserves would be as wise as one for unearned premium reserves, 343; and such reserves should constitute the limit of liability, 343; reckless underwriting would be prevented, the protection of the insured would be standardized, and underwriters would be encouraged, 344; there is a dearth of good insurance in the large cities, 345; limited liability has not gone far enough, 346; the conflagration hazard is at least half as great as the ordinary hazard in the larger cities with respect to mercantile stocks, and several times as great with respect to " fire-proof " buildings, 347.

PREVENTION OF LOSSES

Chapter XIX. — Fire Insurance Engineering. By Frederick C. Moore 348-360

Definition, 348; the inspector, 348; his duties, 350; inspection bureaus, 351; the National Fire Protection Association, 352; the Underwriters' Laboratories, 353; exposure hazards, 354; floor openings, 355; segregation of special hazards, illustrated by the cotton-mill, 356; new hazards, 357; fire protection, 358; contrasts between fire risks in European countries and the United States, 358.

Chapter XX. — Fire Protection with Automatic Sprinklers. By Frederick C Moore 361-368

Description of sprinklers, 361; installation, 362; testing, 363; expert survey, 363; benefits given by sprinklers, 364; cost, 364; the gain from instantaneous action, 365; inspections, 366; limitations of sprinklers, 367; depreciation, 368.

Chapter XXI. — Factory Mutual Fire Insurance. By Edward Atkinson 369-391

Origin in Providence, R.L, 369; the Boston Manufacturers' Mutual, 369; the dormant right of assessment, 370; the picker risk, 370; the fundamental rule of the mill mutuals, 370; the Chicago and Boston conflagrations, 371; the senior and the junior mutuals, 372; the assessment right, 372; inspections, 372; changes introduced about 1878, 373; joint inspections and joint classification, 374; adoption of automatic sprinklers, 374; apparently no conflagration hazard, 375 and 377; but mutuals avoid the most congested districts, 376; no arson and no litigation, 376; adjustments of losses, 377; character of the assured, 378; investigation and elimination of the causes of fires, 379-388; appalling fire losses in the United States, 388; further possibilities for mutual methods, 389.

xviii CONTENTS