Hurricanes are occurring more frequently and causing more damage. With more than $83 billion in combined insured losses, 2004 and 2005 were the worst years for hurricane losses on record. Two trends are largely responsible for the rising costs of hurricanes: rapid coastal development and a more active Atlantic hurricane cycle.
As more insured property is exposed to a forecasted jump in hurricane severity and frequency, we can expect greater losses. The key question is: Who should pay for the damage?
Private market insurance has traditionally covered property losses. A policyholder makes a monthly or semiannual premium payment, and then following a storm he pays a deductible. Insurance companies absorb any remaining losses above the deductible. Following the recent hurricanes, premiums have increased for policyholders along the Gulf Coast. These rising costs reflect the increased risk of living along the coast and the increase in the value of properties located there. Insurance companies must charge rates sufficient to cover expected losses, build reserves and earn a reasonable return on their investment. Simply put, the potential for losses is greater along the Gulf Coast, and it is now more expensive to purchase insurance there.
Many property owners don’t want to pay these higher rates, and they are asking the government to offer insurance coverage at lower prices. Some states, like Florida, are offering their residents policies that are priced well below market rates. By offering subsidized insurance, these states are failing to collect sufficient premiums to cover future losses. Following the next big storm, these states won’t have enough money to pay claims, and they will ask the state’s taxpayers to fund the shortfall. As a result, residents living in the interior of a state will pay the higher costs associated with beachfront property.
Now, some are calling for a national insurance program. There is only one reason for this demand —coastal property owners do not want to pay the full cost of insuring their properties. By seeking federal assistance, these property owners are essentially asking all federal taxpayers to subsidize the rates for those living along the Gulf Coast. Should a West Virginia miner or an Indiana plumber pay higher taxes to reduce the insurance rates for someone on the coast of Florida? Regardless of how one structures a federal program, the federal taxpayer would ultimately underwrite the lifestyle decisions of other citizens. This unfairness effectively penalizes those citizens who decide to live in less risky regions and encourages others to take greater risk, knowing that the federal government will pay in the end.
Providing immediate relief and assistance to individuals facing catastrophes is an important function of government.
Extending long-term insurance against future events is not a good business for the federal government or a good deal for taxpayers. Rather than shifting costs to the federal taxpayer, we should promote policies that leverage the private sector’s position as the most efficient, lowest cost and most innovative provider of insurance.
Hubbard is assistant to the president for economic policy and director of the National Economic Council.