Recently, informed and respectable journalists have taken to referring in shorthand to "credit default swaps" as "insurance". See, for example, Gretchen Morgenson, "Fair Game/In the Fed's Cross Hairs: Exotic Game" p. 1, col. 2 "Sunday Business" Section (New York Times Nat'l Ed., Sunday, March 23, 2008): "Credit default swaps were created as innovative insurance contracts that bondholders could buy to hedge their exposure to the securities." They may know more than they say, or than they write.
Wikipedia Encyclopedia defines a "credit default swap" as "a bilateral contract under which two counterparties agree to isolate and separately trade the credit risk of at least one third-party reference entity." The buyer receives credit protection, this definition continues; the seller guarantees that the product is creditworthy. Wikipedia's definition contains the further observation that credit default swaps "resemble an insurance policy, as they can be used by debt owners to hedge, or insure against credit events such as a default on a debt obligation." Wikipedia Definition of "Credit Default Swap." This may be so close a resemblance as to be the same thing.
A typical State Statute provides that "Insurance" is defined as "a contract whereby one undertakes to indemnify another or pay or allow a specified amount or a determinable benefit upon determinable contingencies." Florida Statute Section 624.02. A decision in a Depression-era case provided a similar, widely followed definition: "The insurance policy ... was merely a simple contract whereby the insurer in return for a stated consideration agreed, upon the happening of a specified event to pay the insured a fixed or ascertainable sum of money." In re Hilpern's Estate (In re Martin), 165 Misc. 430, 433, 300 N.Y.S. 886, 890 (Surrogate's Ct., Kings County 1937)(subscription required to access via Westlaw).
It should perhaps come as no surprise that during the Great Depression, Courts were called upon in many cases to decide what was Insurance, and what was not.
In particular, the Courts were called upon to decide then, similar questions to what they may be called upon to decide now. In the case of National Surety Co. v. Mutual Veneer Co., 66 F.2d 88, 89-90 (6th Cir. 1933)(Michigan law)(subscription required to access via Westlaw), "Credit Insurance" was held to be a form of "Casualty Insurance" subject to Michigan's laws then extant regarding the giving of false statements in applications for Insurance.
And so it is today. A typical State Statute includes "Credit Insurance" among a long list of definitions of types of "Casualty Insurance". Credit Insurance is in pertinent part "[i]insurance against loss or damage resulting from failure of debtors to pay their obligations to the creditor ...." Florida Statute Section 624.605(1)(i).
Well, then: Is a "Credit Default Swap" just another type of "Insurance" at the present time? If it is "Insurance," why has it not been regulated by the States or, if it has been regulated by the States, why are there no known accounts of it? Readers of this Insurance Law Web Log are invited to respond with any sources and cites they may have.
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