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Why is government still in the flood insurance business?
Posted by: McQ on Sunday, December 31, 2006

Ah yes, another day, another government boondoggle financed by your taxes:
The federal flood insurance program may be going broke after incurring $20 billion in debt from recent storms, such as Hurricane Katrina. Still, politicians want to extend the taxpayer-subsidized coverage for some of the riskiest —- and potentially most valuable —- properties in the country.

For all it didn't accomplish this year, Congress passed two bills carving out exceptions to a law passed years ago to phase out federal spending that might encourage development in environmentally sensitive and disaster-prone areas.

One of the bills benefited property owners on Georgia's Jekyll Island, a vacation spot that is poised for development, and the other helped a subdivision on Florida's Gulf Coast.

A handful of similar proposals are pending. After seeing the success of the Georgia and Florida bills this year, property owners in Alabama, Texas and elsewhere are lobbying for their own continued coverage.

"You only have to look at 300 miles of Katrina and Rita wasteland to see that bankrolling federal flood insurance in high-risk areas is just asking the American taxpayer to flush money down the toilet," said Oliver Houck, director of the environmental law program at Tulane University in New Orleans. "If people want to build out there, that's one thing. But to build out there with federal support is insane."
Now someone, anyone, tell me a good and rational reason why government should be in the flood insurance/subsidy business to begin with?

What was that again, if you subsidize something you’ll get what?

More of it.

And that is precisely what the subsidy of cheap government guaranteed flood insurance for properties in the most flood prone areas encourages. More building. And rebuilding. Because, in reality, there is no real risk of loss with cheap insurance. Oh you may lose the original material property, but hey, the taxpayer will bail you out by paying the difference between what the insurance would cost at market price and what you can get the government to take on. To the tune, apparently, of 20 billion dollars.
The debate involves a Reagan-era environmental law called the Coastal Barrier Resources Act that was hailed as a free-market approach to conservation. Instead of restricting where private landowners could build, the law, nicknamed COBRA, mandated that the government would not subsidize such construction, whether through flood insurance, roads or otherwise.

However, Congress has repeatedly chipped away at the covered territory, often in response to wealthy property owners who argue they were mistakenly included. Lawmakers have redrawn COBRA maps more than 40 times in the past 15 years, according to the U.S. Fish and Wildlife Service, which oversees the maps.

Critics say Congress' continued willingness to extend coverage is alarming, particularly in the hindsight of Katrina.

"The underlying principle is that every time COBRA runs up against individual interests, it's always COBRA that loses," said Steve Ellis, vice president of the watchdog group Taxpayers for Common Sense. "These are clearly areas where there's a lot of development pressure and COBRA's having an impact in denying that."
This, folks, is called special interest politics. It is not only a prime example but a very clear example. And both sides of the political fence play the game. As with most attempts to clean up wasteful policies and laws or to get government out of areas in which it doesn’t belong, special interests and their political allies find a way to get around all of that don’t they?

And don’t buy the nonsense that private flood insurance isn’t available. Understand instead that those who want to live on this valuable property simply don’t want to have to pay the real costs necessary to cover it. That’s something for the taxpayer to undertake:
Despite anecdotes that private flood insurance is unavailable, industry officials say it is for sale, just without the government subsidies.
It's those subsidies that have put the federal system in need of a taxpayer bailout. The program owes the Treasury $20 billion. It takes in just $2 billion a year in premiums.

Congress has wrestled with reforming the system by raising premiums and placing new requirements on homeowners. But lawmakers adjourned this year without acting.
Note the final paragraph ... “raising premiums”? See COBRA. What part of that doesn’t Congress understand? This is fairly easy and straight forward ... get out of the flood insurance/subsidy business and get our in the first 100 days of 110th Congress.

Waste, fraud and abuse? With capital letters.

Here’s a perfect way for Pelosi, et al, to demonstrate fiscal responsibility as they’ve promised they would. This is truly an area in which the federal government shouldn't be involved.

Oh, and about health insurance ...
 
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Comments
Just like the clowns who build houses on slopes in California. Every few years they fall downhill in storms, and taxpayers pay for them rebuilding on the new hillside.

And we’re supposed to feel sorry for them and keep paying for it...
 
Written By: Firehand
URL: http://elmtreeforge.blogspot.com
This IS the Welfare State, it provides a MINIMUM to the POOR, but the maximum benefits go to the well-off...like Farm Subsidies. The true Welfare Queens in this nation are the elderly, the agri-business sectors and the middle classes, all of whom vote so it is EXTREMELY difficult to to change the system. I know a diagnosis, not a cure...I’m not sure what the cure IS-except for a creepy pop-Goth band on MTV.
 
Written By: Joe
URL: http://
it provides a MINIMUM to the POOR
Scarcely.

Minimum is a pup tent in a field with a porta-john nearby along with a tasteless food supply (aka "people kibble") with just enough calories to survive. And water; we wouldn’t want the poor to die of thirst like Terri Schiavo.
 
Written By: Mark A. Flacy
URL: http://
When I lived in New Hampshire, someone built some condominiums right on the beach. Absolutely terrific location. Convenient commute to Boston and nice beach front. Of course, when a fairly big storm came along, there was six inches of sand in the ground floor units, but that was a small price to pay(for the owners) for such a gorgeous chunk of real estate. They rebuilt, of course.
 
Written By: timactual
URL: http://
I’m usually largely in agreement with you, McQ, but insurer of last resort is an appropriate role for government either with terrorism or flood. The problem with the private market for flood insurance is that a private insurer can’t sufficiently spread the risk across a large enough base to earn an appropriate return on capital. Homeowner’s who aren’t at risk won’t buy flood insurance and so the insurer’s portfolio is highly concentrated covering the riskiest of homes.

On top of that, as we’ve seen with Katrina, the government is going to bail them out anyway, so at least they should be collecting premiums in advance of the eventual bailout. The real trick is to force homeowner’s who are expecting to be bailed out by the government, to pay gov’t flood insurance premiums in the first place.

That said, there’s no reason to mandate those premiums to be "affordable" - whatever that means.
 
Written By: m.jed
URL: http://
"insurer of last resort is an appropriate role for government either with terrorism or flood."
I have to disagree with you, at least on the flood. You can make a case for the gummint helping rebuild after a terrorist action, but flood? If you build on a floodplain, or in an area below sea level, you know where you’re at, and you have no call to demand the government take care of it if you don’t buy/can’t afford suitable insurance.
 
Written By: Firehand
URL: http://elmtreeforge.blogspot.com
I government is going to insist on providing flood insurance (or the public insist on government being insurer of last resort), then collect the premiums through property tax. It’s an efficient way to assess and collect the premiums, because they can be directed at specific addresses. It’s even possible for the entity that assesses property tax (usually the county) to assess variable premiums based on the risk of flooding by location of the property.
 
Written By: steverino
URL: http://steverino.journalspace.com/
if you don’t buy/can’t afford suitable insurance.
I’d agree if a private market for flood insurance existed - but it doesn’t, and the reason it doesn’t is because of insurer’s fear of adverse selection on behalf of their clients - i.e., the only people who buy flood insurance are the one’s who need it. The insurance market is about spreading a small chance of a large loss across a large base of customers. With flood, you have a small chance of a large loss across a small base of customers, and as a result, insurance companies can’t charge enough to make a reasonable profit.
 
Written By: m.jed
URL: http://
The problem with the private market for flood insurance is that a private insurer can’t sufficiently spread the risk across a large enough base to earn an appropriate return on capital.
Since when is that the concern of government or taxpayers if private individuals can’t afford the premium necessary to insure their property against flood? Why must the taxpayer assume the risk?
Homeowner’s who aren’t at risk won’t buy flood insurance and so the insurer’s portfolio is highly concentrated covering the riskiest of homes.
That’s the nature of risk. The higher the more costly. If insurance companies aren’t willing to take that risk without just compensation, why should taxpayers subsidize it?

The whole point is that if you choose to build in a high-risk area, it is you who choose the risk, not the tax payer. It is you who should bear any cost then ... or choose not to build.
 
Written By: McQ
URL: http://www.qando.net/blog
I’d agree if a private market for flood insurance existed - but it doesn’t ...
But it does. The problem is the premiums are so high as to be prohibitive for most (and the one of the reasons is to be found in the 20 billion payout the government is now stuck with).

Why should we subsidize that? Let the market determine where building can take place (the purpose of COBRA as I recall). Few, if any, are going to take the financial risk if they can’t afford the insurance and that, frankly, is the way it should be. There’ll be a lot fewer houses sliding down hills in California and washed away in storm prone coastal areas.
 
Written By: McQ
URL: http://www.qando.net/blog
But it does. The problem is the premiums are so high as to be prohibitive for most
Actually it doesn’t. Chubb, who specializes is personal lines insurance for the wealthy just started offering limited coverage, but other than that there is no private market for flood insurance for homeowners. I agree with your sentiment in principle, but in this particular instance there is a clear market failure and thus IMHO, a role for government.
If insurance companies aren’t willing to take that risk without just compensation, why should taxpayers subsidize it?
I’m not talking about subsidizing anything. I agree that premiums should be collected and that the government should require that all property who own in a flood plain to pay for those premiums. The Florida insurance market is a nightmare waiting to happen because of subsidized government-provided insurance, the California Workers’ Comp market was a nightmare until reforms were put in place.

Insurer of last resort, to me at least, doesn’t mean the price for that insurance needs to be "affordable", "reasonable", lower than a private insurer would charge or however politicians describe it. In fact if a private market exists, the government should charge a price higher than private insurance. The price has to pay for the loss over an expected return period. That means if the actuaries believe that New Orleans is going to be flooded every 3 years, the price needs to be 1/3 of the benefit less a reasonable return assumed on the investment income earned on the first 2 years of premiums.

 
Written By: m.jed
URL: http://
Actually it doesn’t. Chubb, who specializes is personal lines insurance for the wealthy just started offering limited coverage, but other than that there is no private market for flood insurance for homeowners. I agree with your sentiment in principle, but in this particular instance there is a clear market failure and thus IMHO, a role for government.
Why? Why is it a role for government because the market refuses the risk?

And why is that a market failure?

Is there some sort of right to build over and over and over again on a flood plain which requires others pay for your folly?
Insurer of last resort, to me at least, doesn’t mean the price for that insurance needs to be "affordable", "reasonable", lower than a private insurer would charge or however politicians describe it.
But you’re not answering the key question. Why is that something government must or should do?

When did that become government’s job paid for by tax payers?
 
Written By: McQ
URL: http://www.qando.net/blog
Why is it a role for government because the market refuses the risk?
Well this gets a little circular and extended vis a vis the role of the government in the mortgage market so it’s a bigger problem than just insurance, but AFAIK, Freddie & Fannie require that the mortgages they purchase from private lenders to have a homeowner’s insurance clause. As a result, I assume that government bank regulators require the same for even those mortgages that do not get sold to Fannie or Freddie. If the government is essentially mandating that in order to have a mortgage one must have insurance, and a private market for that insurance doesn’t exist, well that’s a market failure.

If the premiums being charged for the insurance are actuarially appropriate, then it is not a government bailout, nor is it "being paid for by tax payers" in the sense that you’re implying. If the government charges the correct rate, then the cost of that insurance is being borne by the property-holders - exactly the people who should be bearing that expense. And since the government is going to spend billions in regions of mass natural disasters anyway, at least they should collect premiums in advance of that spending.
 
Written By: m.jed
URL: http://
If the government is essentially mandating that in order to have a mortgage one must have insurance, and a private market for that insurance doesn’t exist, well that’s a market failure.
Not really. A market implies a product and both a willing buyer and a willing seller.

There is no market if any of the above are missing.

And mandates do not equal a "market". I can mandate that houses on stilts in the middle of the Gulf of Mexico must have flood insurance but that doesn’t mean there’s a legitimate market for such insurance in that area or under those circumstances. And it certainly doesn’t mean that government must provide it.
 
Written By: McQ
URL: http://www.qando.net/blog
Directly from the Economist’s "Economics A-Z" we have (all emphasis mine):
Adverse selection
When you do business with people you would be better off avoiding. This is one of two main sorts of market failure often associated with insurance. The other is moral hazard. Adverse selection can be a problem when there is asymmetric information between the seller of insurance and the buyer; in particular, insurance will often not be profitable when buyers have better information about their risk of claiming than does the seller. Ideally, insurance premiums should be set according to the risk of a randomly selected person in the insured slice of the population (55-year-old male smokers, say). In practice, this means the average risk of that group. When there is adverse selection, people who know they have a higher risk of claiming than the average of the group will buy the insurance, whereas those who have a below-average risk may decide it is too expensive to be worth buying. In this case, premiums set according to the average risk will not be sufficient to cover the claims that eventually arise, because among the people who have bought the policy more will have above-average risk than below-average risk. Putting up the premium will not solve this problem, for as the premium rises the insurance policy will become unattractive to more of the people who know they have a lower risk of claiming. One way to reduce adverse selection is to make the purchase of insurance compulsory, so that those for whom insurance priced for average risk is unattractive are not able to opt out.
If insurers could avoid the adverse selection component of flood insurance they would be willing sellers, but they can’t - hence market failure.
 
Written By: m.jed
URL: http://
Well, I know that when I buy a house (two so far) the lender looks up the survey, says "Is this in the flood plain?", and if it is, won’t lend me the money unless I show I have flood insurance from somewhere. That nixed several houses I was looking at.

Of course, it really doesn’t help when the builder of a subdivision "removes" it from the flood plain by trucking in fill dirt to raise the subdivision by three feet. I only found this out by talking to some residents.
 
Written By: SDN
URL: http://
"Homeowner’s who aren’t at risk won’t buy flood insurance and so the insurer’s portfolio is highly concentrated covering the riskiest of homes."

Duh! If I don’t own a car, why should I buy car insurance? And why on earth should I be forced to pay for collision insurance for someone who does own one? Prices for flood insurance are high not just because low-risk people won’t buy it, but also because property at high risk of flooding is usually WATERFRONT property, which more valuable. Owning flood-prone property should be like the old saying about owning a yacht; it’s not the purchase price that is expensive, it is the upkeep. If people can’t afford the insurance premiums on their beachfront property, they shouldn’t buy it, and they d*am sure shouldn’t expect me to pay for it.


"I’d agree if a private market for flood insurance existed - but it doesn’t, and the reason it doesn’t is because of insurer’s fear of adverse selection on behalf of their clients - i.e., the only people who buy flood insurance are the one’s who need it. "

Great Jumping Jellyfish, man. Of course the only people who buy it are those who need it. The only problem is that those people want the rest of us who don’t need it to pay for it, too. There IS a market for flood insurance, just as there is a market for any kind of insurance you are willing to pay for. You can insure your virility if you wish. You can buy health insurance for your pet. Betty Grable famously had her legs insured. By the way, there ARE other insurers. I am sure if I spent more than the five minutes I did spend on this, I could find more.
http://www.realestatejournal.com/buysell/taxesandinsurance/20050902-silverman.html


"If insurers could avoid the adverse selection component of flood insurance they would be willing sellers, but they can’t - hence market failure."

Do you actually understand what insurance is and why it exists and why people buy it? Any market failure here is caused by the government creating artificially low premiums.


Buying property, even property prone to flooding, is voluntary.

 
Written By: timactual
URL: http://
Any market failure here is caused by the government creating artificially low premiums.
The NFIP covers some 4.8 million homeowners who pay about $450, on average, in annual premiums, according to FEMA spokesman Butch Kinerney. . .it covers only up to $250,000 for homeowners to rebuild damaged residential structures and up to $100,000 to replace the contents inside. . .
AIG’s primary flood insurance covers only up to $250,000 to rebuild structures on the property and $100,000 to replace personal property. (For homes with a higher replacement value, AIG also offers far greater amounts of separate excess flood insurance.) AIG’s primary coverage also insures extra things that the government doesn’t, including $25,000 for basement finishes, such as carpeting, and $10,000 for basement contents, as well as up to $5,000 for additional living expenses if you are displaced by a flood.

AIG’s flood coverage typically raises homeowners’ premiums by about 2% to 5%, says Martin Hartley, senior vice president of AIG Private Client Group, but that could vary depending on certain factors, such as the deductible the policyholder decides to take. On average, AIG private clients pay about $5,000 in homeowners’ premiums, he adds.
Let’s see, 5% of $5,000 is $250. So AIG’s policy is less expensive and provides more coverage than NFIP. Where are the artificially low premiums you reference?

Oh, well I guess my understanding of insurance and reading comprehension is slightly better than yours. Perhaps you missed this in the article you cited:
One catch: Primary flood coverage in AIG’s home policies is available only in a handful of states, including California, Colorado, Connecticut, Illinois and Massachusetts. So homeowners in the Gulf states devastated by Hurricane Katrina would not be covered under these policies.

What’s more, AIG’s primary flood insurance covers properties only in low- to moderate-risk flood zones. That means that homeowners in higher-risk areas still have to turn to the government program for primary coverage. (However, in high-risk areas, AIG says it might still cover some extra flood-related expenses under its homeowners’ policies.)

Fireman’s Fund is also planning to offer primary flood insurance in the fall, but its flood coverage is sold separately and is not automatically embedded in its standard homeowners’ policies. Premiums for flood coverage might cost about $300 to $500 a year for a home with a replacement value of $1 million, says Michelle Kenney, senior director of personal insurance underwriting at Fireman’s. Like AIG, Fireman’s provides primary flood coverage only in low- to moderate-risk flood zones.
Wow, flood insurance in a high-risk area like Colorado.

There IS a market for flood insurance Actually there isn’t. There is a market for flood insurance where flooding is not a risk. But if I live in New Orleans, or Galveston, or Houston, or Miami, or South Boston, or anywhere in Long Island, I cannot buy private flood insurance. Now maybe you think all of these places should be razed, or the only people who should own properties there are those who can pay cash for their properties, which is fine. I’ve never said flood insurance should be subsidized. I’ve never said the cost of such insurance should be borne by those who choose not to live in flood prone regions. I’ve said that there is no private market. The reason there is no private market is that private insurers view flood as "uninsurable" because of adverse selection. The government demands that mortgage lenders loan to properties that have insurance. Even if as a private citizen, I was willing to self-insure and bear the risk for such a property, the only way I can own such a property is if I pay cash for the entire portion of the equity.

Now there’s lots of government involvement throughout this entire chain distorting "free markets". In a defacto manner, it’s the government that demands proof of insurance. It’s the government that regulates private insurance companies to ensure that they’re both sufficiently capitalized to pay future claims and that they’re not price gouging. It’s the government that determines how insurance companies report their profits (they’re not allowed to reserve for expected catastrophic events, only for those that have occurred, which means they overstate profits in years where there are no catastrophes and thus pay higher taxes in those years). It’s the government that officially measures flood plains. I’d love to see all of these things go away, but it’s like pulling on a frayed string of a sweater - the whole system needs to be redesigned, and realistically that’s not going to happen.
 
Written By: m.jed
URL: http://
Government is in the flood insurance business because flood insurance is primarily purchased by those who are likely to suffer floods and no one else. P & C insurance firms suffer adverse selection and underwriting, in providing flood insurance. We the people have decided we want some of us to be able to live and work in areas that may be flooded. We ask the gov’t to step in to enable us to have our way because the job of government is to absorb those risks that we cannot handle ourselves or that we cannot transfer to the marketplace.
 
Written By: Boleslaw
URL: http://
m.jed,

Don’t get too frustrated with the libertarians...they are well meaning but often take it too the XtREme!
 
Written By: Harun
URL: http://
So, on the premise the government OUGHT to insure people building in flood plains and low lying areas....

can I expect to get a discount on my insurance (via government subsidy) because I live on the southern fringe of Tornado Alley?

Where’s my government subsidy for my insurance in my area, my house might get blown away and the government doesn’t feel obilgated to help me pay for that every month, why not?
Ya ever seen what a tornado does to a place? We aren’t talking gutting the bottom floor here. Where’s my free money!?
 
Written By: looker
URL: http://
"So AIG’s policy is less expensive and provides more coverage than NFIP."

You must be hallucinating. I have it on good authority there is no market in flood insurance, thus a private company cannot possibly be issuing policies.

****************
"The NFIP covers some 4.8 million homeowners who pay about $450, on average, in annual premiums, according to FEMA spokesman Butch Kinerney"

"AIG private clients pay about $5,000 in homeowners’ premiums, he adds."

"Let’s see, 5% of $5,000 is $250. So AIG’s policy is less expensive and provides more coverage than NFIP. Where are the artificially low premiums you reference?"

"Oh, well I guess my understanding of insurance and reading comprehension is slightly better than yours."

OK, if you say so. I guess your math skills are also better.


 
Written By: timactual
URL: http://

 
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