Free Markets, Free People

Here’s a surprise – Federal Flood Insurance Program incentivizes bad – and costly – behavior

Did you know there’s a home in Mississippi that has flooded 34 times in 32 years? And each time it has flooded, the federal government, through FEMA’s Federal Flood Insurance Program, has paid the owner’s claim. The house, worth $69,900, has cost the government $663,000 in flood damage claims. That’s almost ten times the home’s worth and averages over $20,000 a year.

If insanity is doing the same thing over and over again and expecting different results, that aptly describes this federal program. It essentially incentivizes home owners to remain in flood prone areas by bailing them out each time they are flooded. And, as you might imagine, that’s finally caught up with the program, as USA Today reports:

FEMA’s National Flood Insurance Program is the nation’s main flood insurer, created by law in 1968 as private companies stopped covering flood damage. The program insures 5.6 million properties nationwide and aims to be self-sustaining by paying claims from premiums it collects.

Instead it’s running deeply in the red. A major reason, a USA TODAY review finds, is that the program has paid people to rebuild over and over in the nation’s worst flood zones while also discounting insurance rates by up to $1 billion a year for flood-prone properties.

Along with the huge losses from Hurricane Katrina, the generous benefits have forced the program to seek an unprecedented $19 billion taxpayer bailout.

As one critic succinctly points out, “if this were a private insurer, it would be bankrupt”. In fact, it with those business practices, it would have been bankrupt years, if not decades ago. And now, hat in hand, it goes to the taxpayer for a bailout. $19 billion dollars worth of bailout.

As a government program, federal flood insurance covers anyone. It’s similar to state-run programs that insure homeowners and drivers who cannot get private coverage. Policies cannot be canceled, and individual premiums cannot be raised based on claims payments.

"It is not run as a business," [FEMA Administrator Craig ]Fugate said.

Congress’ Government Accountability Office said in April that the program is "by design, not actuarially sound" because it has no cash reserves to pay for catastrophes such as Katrina and sets rates that "do not reflect actual flood risk."

Raising insurance rates or limiting coverage is hard. "The board of directors of this program is Congress," Fugate said. "They are very responsive to individuals who are being adversely affected."

Or said another way, Congress has been “captured” by influential constituents who see no problem using their influence to burden taxpayers to subsidize the way of life they prefer – no risk building in areas prone to natural disasters. It isn’t “regulatory capture” per se, but it could certainly be called “constituent capture”. It is certainly rent seeking. Whatever the name preferred, it is an abuse of the taxpayer’s money.

It appears the plan is to continue doing business as usual – providing cheap insurance to builders and homeowners who continue to build or rebuild in flood prone areas. No fault risk taking subsidized by the federal government via taxes. So when you see stories like this, you know who to blame:

In Fairhope, Ala., the owner of a $153,000 house has received $2.3 million in claims. A $116,000 Houston home has received $1.6 million. The payments are for damage to homes and what’s inside.

After all, the view’s beautiful, coverage cheap and can’t be canceled and the risk minimal in terms of dollar loss, so what incentive is there to relocate to an area less prone to flooding as long as the taxpayer is on the hook to subsidize that lifestyle and they keep paying?



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14 Responses to Here’s a surprise – Federal Flood Insurance Program incentivizes bad – and costly – behavior

  • You get perverse incentives when you distort the market.  It is that simple.  You might do it with the best intention; it won’t matter.  Expose people to actually paying for their choices, or have to rely on charity for help (which is something we all face with life’s vicissitudes), and people will tend to make rational choices.
    Markets innovate, and raise the standard of living.

    • Your truth should be visible to the most casual of observers. So why doesn’t the political class get it?
       Ya, I know, they first have to take their collective heads out of that dark and smelly place.

      • “Those poor people had their house flooded and the evil insurance company wouldn’t cover them. We need to get the government to help.”

  • This is one of those bad government programs that reoccurs with the regularity of an unwanted season.

  • When I first came here, this was all swamp. Everyone said I was daft to build a castle on a swamp, but I built in all the same, just to show them. It sank into the swamp. So I built a second one. That sank into the swamp. So I built a third. That burned down, fell over, then sank into the swamp. But the fourth one stayed up. And that’s what you’re going to get, Lad, the strongest castle in all of England.

    Monty Python and the Holy Grail (1975)
    dirs. Terry Gilliam, Terry Jones

    Who knew that King Arthur’s England had something like the National Flood Insurance Program???

    / sarc

    • To continue with that thought – in the Obamacare bill, there’s probably a section that provides for “huge tracts of land” to be  paid for at government expense.
      Couldn’t resist.

  • On a related note, I could never undertsand why, almost every year, Federal funds were used to assist homeowners in dry parts of California whose houses burned down as a result of a wildfire (almost always fed by strong Santa Ana winds). It’s the equivalent of a farmer in Minnesota applying for disaster relief because his citrus crop failed due to heavy snow.

  • All we have to do is create a mandate from Congress for all to have to buy flood insurance, then it will become a business that will be lucrative!
    What’s the problem folks???

    • Yup, and make it noncancelable (because of pre-existing conditions) and deeply discounted as well (subsidzed) and you’ll have … oh, wait, that’s ObamaCare. Who know it was modeled after the FEMA flood insurance program.

  • Even when people have private insurance in a disaster, it always seems that the government is there with the cash because the insurance companies don’t have the money liquid.
    I’ve always wondered if instead of using it for insurance payouts, they invest the hell out of it so there’s little liquid cash and the rest is tied up in investments.  And the Government ends up footing the bill in the short term, anyway.