Avoiding a stormy future of state insurance regulation

Two years of relatively mild tropical storm activity along the Gulf Coast have done little to alleviate the legacy of 2005’s “Katrina plus” devastation from Florida to Texas. Homeowners, insurers, and state treasuries (a.k.a., taxpayers) will feel the brunt for a long time to come.

At least, they will if government and industry can’t come up with a better way to cope with natural disasters. Hurricanes and tropical storms, even with multiple hits in a single season, are hardly unexpected in the Atlantic-Caribbean interface. It should be possible to articulate public policies that facilitate (or do not inhibit) the provision of risk-management services at a manageable cost, even in high-risk areas like the southeastern coast of the U.S. Yes, a premium must be paid for the level of risk; property owners understand that, at least in principle.

But maybe government doesn’t. Florida, having taken over much of the homeowners’ insurance market with its (comparatively) low-cost insurance-of-last-resort program, Citizens Property Insurance, now is denying major insurers still operating in the state the rate levels they say they need, actuarially-speaking, to keep doing profitable business in the state. That’s right, profitable: Insurers still think they need a financial incentive to manage risk, even in a highly charged political environment.

Now, anyone can dispute actuarial estimates (just ask the Social Security Administration), but the insurance industry has long-established protocols and guidelines to gauge their risks of loss, in the aggregate, over a period of time. If they make a mistake, which sometimes happens, they may lose more than expected or have an unexpected surge in profits. That’s the nature of the business, after all — dealing with unknown, yet foreseeable, future risks.

Weather is a classic example of a difficult to predict, insurable risk factor. It doesn’t just affect residences and commercial properties, but all commercial enterprises and the government sector as well. Weather insurance per se is a commonplace product where agriculture is concerned, but weather is more often viewed as a factor, or condition, of policy payouts for homeowners. The wind-vs.-water disputes still winding their way through the courts, post-Katrina, are a classic instance where not just the letter of the policy and the accuracy of predictions matter, but the hard facts of each case are critically important.

We all hope the U.S. (and everyone else, for that matter) won’t see another Katrina anytime soon. But we have to face the fact that predictions of climate change, a cottage industry in and of itself, compel insurers to take weather even more seriously than in the recent past. In the U.K., as The Economist reports, this summer’s heavy rainfalls have spurred the Association of British Insurers to launch a “ClimateWise” initiative to keep climate change at the forefront of industry concerns. The initiative may be more rhetoric than action, but it demonstrates an unavoidable truth about today’s insurance industry — perceptions of what is happening, and likely to happen, take on an actuarial reality of their own, particularly when bolstered by the academic-bureaucratic complex.

In this case, global warming, or climate change, has been driven into the public consciousness as a reality to be dealt with, and whatever reservations one has about the theories and motives of climate-change mavens, longer-term predictions of climate change start translating into shorter-term actuarial predictions of major weather events.

Given the surge of public policy concerns about weather and climate, it is all the more important that we get the right public policies in place — policies that encourage, not block, the provision of insurance at market rates; policies that don’t excessively subsidize locating in higher-risk areas, whether the very edge of the Gulf Coast or on top of the San Andreas fault; policies that minimize the regulatory overlay of costs that, too often in the U.S. system of state regulation, both drive up the cost to consumers and dry up the supply of products.

In short, the more Floridas we get, where modern insurance regulation is concerned, the better the case will be for a national solution. Legislators considering the Optional Federal Charter proposal, now pending in both the House and Senate, should give that factor more serious thought than they have to date.

Pieler and Hunter are senior fellows with the Institute for Policy Innovation.