Now that it's clear Congress won't be adding wind exposures to the National Flood Insurance Program anytime soon, should private carriers be forced to write coverage for both risks in one policy, and then have the government reimburse them for flood-related claims? That's the trial balloon being floated by one academic.
Rebecca Mowbray of the New Orleans Times Picayune filed a story on May 11, headlined "One-Stop Storm Policies Proposed," that lays out the idea suggested by Adam Scales, an associate professor at the Washington and Lee School of Law in Virginia. (Click here for the full story.)
"Rather than having homeowners buy two policies--a flood policy from the government and coverage for fire, theft, liability and wind from a private insurance company," reported Ms. Mowbray, "Prof. Scales advocates making [insurance] companies sell policies that would provide all the coverage people need and having the government reimburse the companies for flood claims."
The idea, she reported, is that "changing the flood program from a retail venture to a reinsurance program operating behind the scenes would allow consumers to collect one insurance check and start rebuilding their homes and the broader economy, while leaving any disputes for the companies and the government to resolve."
Her article added that "mandatory coverage would also solve the problem of not enough people having flood insurance, and would put the program on better financial footing," according to Prof. Scales.
"It would push disputes up one level to the wholesale level. Now you would have an argument, say, between State Farm and the federal government about how to deal with the aggregate loss," said Prof. Scales. "It clearly makes the wind-water distinction meaningless to the average consumer."
Ms. Mowbray reports that under Prof. Scales' plan, "everyone would be required to have flood coverage on their insurance policies, but it would be pricey for people who live in flood-prone places like New Orleans or near a river, and just a few dollars for those whose homes risked flooding only in freak circumstances."
Under the scheme, private homeowners insurers would collect the premiums, she noted, "and then would buy a flood reinsurance policy from the government that would cover most of their losses," adding that "eventually, companies might even sell catastrophe bonds in private markets to cover their flood risk."
Prof. Scales' proposal, she reported, would "phase out flood insurance subsidies on older homes over the next 15 years so that wealthy people wouldn't benefit, but the government could help low-income homeowners who couldn't afford the higher prices [for coverage]."
The article noted that "to have true risk-based pricing, the government would have to update the floodplain maps," reporting that Prof. Scales "suggests turning the maps over to the insurance industry to maintain, since they would have a financial interest in keeping them up to date because they'd be on the hook for a portion of the flood claims before the flood reinsurance kicked in."
The Property Casualty Insurers Association of America is quoted in the article as being concerned, as would most of the industry, about the odds of getting repaid by the government in a timely fashion--if at all.
I personally think that If this were to work at all, the flood premiums would have to remain in a fund controlled by private insurers, which could be tapped to quickly pay claims. But I cannot imagine Congress sitting still for that, since the old concern would arise that insurers would dump wind-related water damage in the government-paid flood pool.
However, if the government controls the reinsurance pool, and forces insurers to prove a claim was flood-related before offering reiumbursement, insurers would no doubt balk because of their fear that Uncle Sam would deny all but the most obvious claims, leaving private carriers on the hook for the rest.
Of course, insurers could suggest withholding payment of flood claims until the government at least promises reiumbursement, but consumer advocates aren't likely to go along with that.
Bottom line, there is simply not enough trust among consumers, insurers and the government to pull this off. Therefore, I think the idea, while intriguing, is a non-starter. This is one trial balloon unlikely to get much altitude or hang time.
What do you folks think?
Comments (5)
Why, I think it's a great idea. But then, I would!
A couple of points. I agree that the breakdown of trust is a huge stumbling block. Insurers must have a firm commitment that they can set rates with reference to actuarial reality.
Now, looking at where rates went, somewhat briefly, post-Katrina (I'm thinking about increases in Florida), well, these looked like panic responses to me, even though everyone understands the models need to be refined.
However, on balance, I think the government needs to go the extra mile to restore trust here.
On the allocation issue--Ms. Mowbray's gracious article slightly misconstrues how I imagine this would work.
My intent is for the feds to provide reinsurance at a fairly high attachment point, and even then, not full reimbursement.
The example I use is $1 billion of private exposure (lots of ways to slice that--per insurer, per insured event across a pool of insurers, etc.), then reinsurance kicks in to pay, say 80% of the losses above that.
There are a million ways to do this, and I have no real objection to a totally private reinsurance market emerging to cover much more of the loss--except that one of the big problems here is that insurers don't think flood losses are their problem as it is. I'm trying to invest everyone in this problem, to some degree.
I wonder how intractable allocation disputes would be. In my casual conversations post-Katrina, a number of insurance professionals suggested to me that in small-bore disputes, they try to come up with some rough allocation between covered and uncovered flood/wind losses (even though the insurance contracts, read literally, do not so provide).
I think that insurance professionals on both sides of the table, even those employed by the feds, could hammer these disputes out reasonably. If they didn't, well, this isn't an era in which people are giving FEMA the benefit of the doubt.
Anyway, thanks for the post.
Posted by Adam Scales | May 19, 2008 3:59 PM
Posted on May 19, 2008 15:59
My suggestion: States should require property insurers to cover the flood peril in their policy.
In exchange, the states should remove rate regulation for the premiums insurers charge.
Posted by Observer | May 19, 2008 4:59 PM
Posted on May 19, 2008 16:59
The National Flood Insurance Program was instituted by us in 1968. The real issue concerning us should be why, after 40 years, has flood and wind insurance coverage become a controversy? During the past 40 years we know there have been flood losses and there have been wind losses.
What’s new? First, the U.S. population has increased in our cities by at least 100 million--hence there is a larger property exposure now and a larger population exposed to loss of that property.
In addition, 40 years later, how many of these properties have their mortgages paid off? You’ll all recall flood insurance is only forced coverage by mortgage companies who won’t extend a loan to a property owner in a flood plain who will not cover the exposure.
It is not mandatory for property owners to purchase flood insurance or even property insurance including wind coverage after they’ve paid off their mortgage, even though they should do so when living in a flood plain. This translates into many more individuals asking the government for assistance.
Finally, the odds and the laws of nature have finally shown their faces in one city’s constant risk of devastation. How many years has New Orleans, at a negative elevation of minus-6 feet to minus-20 feet, been able to avoid the “perfect storm” of flood, wind, and a levy break?
New Orleans avoided the perfect storm for so many years--in fact, tens of thousands of its citizens exposed themselves to death and destruction because they had become quite careless about odds and the laws of nature.
As the current flood poster child, surrounded by water on three sides, New Orleans’ historical development was minimal and limited to what higher ground it had. During the 20th century, however, the creation of a pump system allowed development in the submerged areas of the city and a false sense of safety ensued.
The National Flood Insurance Program Act should have held a “limited coverage” clause for cities that continued to grow their populations in their flood plains and expect taxpayers to foot the bill if lady luck ran out. Our government should not be in the risk management industry.
Posted by Sue | May 20, 2008 3:54 PM
Posted on May 20, 2008 15:54
Every time I see the phrase "force insurers" or similar words meaning "coerce them," I get a shudder.
Governments should not coerce anyone to do anything, other than refrain from violence and fraud, and to keep their promises. Let insurers pursue their self-interest honestly and without the use of force or threat of force; and let property-owners do the same.
A market will establish itself that will price the risk of building or buying property in flood zones, and everywhere else. Let those who choose to own property in a flood zone be uninsured, or underinsured, if they so choose.
Let the government, if it so chooses, inform property owners of the fact that their property is at risk of flood damage. Let lenders decide, if they wish, to make no loans (or only high-inteterst-rate loans) without the existence of flood insurance for their benefit.
Let the people who choose to own property without insuring it suffer the consequences if and when the risk materializes.
Decisions have consequences; why should others remove them? Every time government coerces people to act against their self-interest, people will seek ways to evade that corecion, and that just leads government to make more coercive laws, and this process just escalates until we have a totalitarian society.
Posted by Mikk | May 20, 2008 4:16 PM
Posted on May 20, 2008 16:16
This is not just a New Orleans issue, though the Katrina disaster is the most illustrative example of government gone bad at all levels of pre-event activities and post-event response.
The flood issue is more than just an insurance issue. Tweaking the insurance response to a flood disaster does not correct the underlying problem--which is building in a flood zone in the first place.
As an Inland-Wetlands commissioner, it has become clear that town planners have no conscience and no restraints to deter property owners and developers from building in flood plains. I-W commissioners who attempt to stop the development within flood plain areas face lawsuits and/or political reaction if they reject the development project plan.
What good is a flood plain map if builders are permitted to develop within the flood plain, banks have recourse to shift the responsibility of their decisions to finance such projects to insurers, or the federal flood program and property owners (and banks) are bailed out literally and figuratively by the government after the foreseeable disaster occurs?
I certainly would not give local government control of flood maps, as these would be manipulated based on political favoritism.
I would rewrite flood plain rules to disallow the practice of "mitigation" construction that permits developers to shift the flood waters from one location to another in order to build in a flood plain.
Water has to go somewhere. "Mitigation" just moves the flood problem to someone else's property (which then sets up another lawsuit). Lawyers love this stuff. Taxpayers foot the bill.
After reading your correspondents' responses, I tend to lean toward keeping government out of the insurance business and letting the market respond.
That said, the status quo doesn't work very well and a change in the federal program from a direct insurer to a reinsurance arrangement makes a great deal of sense.
This puts the insurance market back in control of the underwriting of the risk and perhaps will ultimately restrict development in flood plains.
Let the debate continue...Good topic, Sam!
Posted by Joan | May 21, 2008 8:52 AM
Posted on May 21, 2008 08:52