When Hurricane Andrew devastated southern Miami-Dade County in 1993, it washed away a 100-years' worth of basic assumptions about the threat of hurricanes and the impact they could have on a homeowners' insurance market. With insurers neglecting to realize the amount of risk being generated by the growth of the population, much of which was migrating to coastal counties, insurers' rates were sorely inadequate to meet the challenge of absorbing the level of Andrew losses. As a result, insurers were unprepared for the somewhere between $11 billion and $15 billion in losses, which led 11 companies to go under.
For the next several years, the experience of Andrew set in motion a debate as the legislature, regulators, and the industry searched for that fine line between how much risk the private market could realistically bear and what should be the role of government in the insurance market. Spanned by several years with a flurry of property and casualty task forces, and the passage of a number of reform bills, some of the state's largest insurers–State Farm and Allstate–took the position that hurricanes were uninsurable. That position sent the first wave of lawmakers, insurers, and others to Washington, D.C., to advocate for a national catastrophe fund. While that conversation fell on deaf ears, Florida created its own solution in the form of the Florida Hurricane Catastrophe Fund.
Post Andrew, the weather granted Florida a reprieve, with few storms affecting the market. This allowed the cat fund to accumulate capitol and lead to the creation of any number of new insurers to help depopulate the former Florida Residential Property Joint Underwriting Association. But even the state-run insurer can do only so much, which is why, in the wake of the 2004 and 2005 when Florida absorbed hurricane losses in the $30 billions, lawmakers once again descended on Washington, D.C. This time, however, Florida officials were not alone, as they were joined by officials from Mississippi, Alabama, and Louisiana, where Hurricane Katrina decimated New Orleans, much of which still lies in ruins. And the regulators also carried with them the warnings from experts who stated that coastal areas should expect even more storms over the next decade.
Little Headway to Date
Even armed with greater evidence, the concept of creating a national backstop for catastrophic events has made little headway over the last decade and that, in many ways, reflects the debate in Florida. When lawmakers created the Citizens Property Insurance Corporation and purposely kept the residual market rates artificially low by making a central pillar of Citizens' deficit financing, the ability to levy assessments against all homeowners' policyholders, the interior counties in the state cried foul. They have questioned why they should have to subsidize insurers for coastal residents, just as the residents of Michigan, Nebraska, and other states have questioned why they should have to subsidize the costs for natural catastrophes along the coast lines, the Gulf of Mexico, and the Atlantic Ocean.
"This is a geographic issue," said Robert Hartwig, president and chief economist of the Insurance Information Institute, a nonprofit organization supported by the insurance industry.
Big Government vs. the Private Market
What's interesting about the national catastrophe debate is that it has turned the usual debate between Democrats and Republicans on its ear. Florida Republicans, who typically oppose government intervention in the market, bureaucrat programs, and the taxes that go with them, are now leading the fight to create the national fund. On the other hand, Democrats who have long been the target of Republicans for believing that the solution to any problem is government, are taking the position that a national catastrophe fund is not the solution.
This dynamic was clearly seen in March at a Senate Banking and Insurance Committee hearing in Washington, D.C., where Governor Charlie Crist, the so-called "People's Governor," pleaded with national lawmakers to establish a national catastrophe fund. Crist testified that the federal government had already backed up the insurance system in an inefficient and unplanned way by doling out billions of dollars of aid after massive storms. He also lashed out at the insurance industry–citing estimated profits of $60 billion last year–while advocating support for a fund to spread risk nationwide and make premiums affordable in storm-prone areas, "thus strengthening our insurance markets."
Florida's two senators, Bill Nelson, a Democrat, and Mel Martinez, a Republican, also support a federal back-stop fund for catastrophic storms. But Sen. Richard Shelby of Alabama, the ranking Republican on the committee, said he opposes the plan. He argued that it would leave taxpayers in safe areas paying into a fund to cover homeowners in vulnerable locations, including ritzy houses on the beach.
In a sign that any progress of a national fund would not be coming any time soon, the White House also indicated it wasn't interested in pushing for the fund. The two top congressional leaders–House Speaker Nancy Pelosi, D-California., and Senate Majority Leader Harry Reid, D-Nevada–have also shown minimal support for a national disaster fund. State or federal attempts to limit consumer costs are "well intended but have the side effect of undermining the private market," the president's Council of Economic Advisers Chairman Edward Lazear told the committee.
"Government insurance would displace insurance provided by the private market, and for the most part, that market is healthy" Lazear said. He noted that reforms enacted by Florida lawmakers earlier this year that are aimed at reducing homeowners' rates by giving insurers access to cheaper, state-backed back-up coverage will likely drive private insurers away.
Hartwig, of the Insurance Information Institute, said he expects Congress to form a commission to study the issue for at least three months. "Congress recognizes there is a difference of opinion among regulators and the insurance industry itself," he said.
Whether the free market is working in the post-Katrina era is up for debate, Hartwig said. Some industry observers say the industry was able to respond to all the claims involving Katrina and it's responding to the increase in claims with higher prices. Hartwig notes that the proposed increases in insurance premiums today in Florida and other coastal states is a proper market response.
The Search for Other Solutions
Insurance trade groups and regulators are busy lobbying for a national catastrophe fund, but they fully recognized it is an uphill battle. The industry is also not marching in lockstep when it comes to the problem. The Property Casualty Insurers Association of America, which represents more than 1,000 companies, testified that it favors a "high-level federal liquidity backstop for catastrophic losses," but only as part of a number of reforms. "PCI believes there is a role, properly structured, for the federal government to play in assisting the financing of mega-catastrophe risk, and recommends a range of changes, including market reforms, stronger loss reduction and prevention, and new approaches to financing these risks."
However, another major insurance trade group, the American Insurance Association, says government should stay out of the insurance business and that the industry is coping with catastrophic losses just fine.
The AIA represents about 400 major insurance companies. "There is a flawed assumption that the insurance industry lacks the capacity to manage the risk of natural catastrophes," said Eric Goldberg, AIA assistant general counsel. "We are apprehensive about any rush to embrace state catastrophe funds when the case has not been made that the private sector lacks the ability or the capacity to manage natural catastrophe risk, or that a broader governmental role in assuming natural catastrophe risk is necessary."
In Florida, several of the biggest property carriers support a national fund, but not all, said Sam Miller, executive vice president for the Florida Insurance Council. Given the political bickering in Washington, Miller said it's doubtful such a fund will be established anytime soon. While such a fund would help Florida, it would not be a magic bullet to decrease rates."
Miller said that ideally such a federal fund would only be tapped for "nightmare" type events on the scale of Hurricane Andrew or Katrina or other Category 5 storms.
Even without a national version of Florida's cat fund, the federal government is still spending billions in storm aid trying to rebuild the Gulf region, Miller said. "We are all paying now in terms of federal dollars that are being added to the federal deficit," he said.
Indeed, the idea of a fund raises the question of whether it's more sensible for federal government to pay out ahead of a storm so it can react more efficiently to a disaster, or try to react to a calamity afterward.
Florida officials, cognizant of opposition in Washington to a national fund, have resurrected the idea of creating a regional catastrophe fund. If established, the multi-state fund could help fund excessive losses from such events as hurricanes, earthquakes, flooding, and even terrorism. But unlike a national fund, the monies would only come from interested participating parties. "We hear so much about the hurricanes in Florida, but we know there's potential for a $400-billion loss in California due to an earthquake, and a $250 billion massacre if an earthquake strikes along the New Madrid fault [in the Midwest]," said Florida Insurance Commissioner Kevin McCarty.
McCarty and Florida Chief Financial Officer Alex Sink went to Atlanta in February to host a meeting on multi-state catastrophe funds at a National Association of Insurance Commissioners' conference. Representatives from Virginia, Arkansas, Louisiana, Rhode Island, West Virginia, Alabama, Maryland, South Carolina, Kentucky, North Carolina, Tennessee, Georgia, California, Ohio, Oklahoma, Mississippi, and Nebraska attended the conference.
Sink said she favored creating a regional fund that would help coastal states. "Hurricanes will not wait for the federal government to get a national catastrophe fund up and running," said Sink. "It's up to the coastal states to work together to ensure citizens have access to affordable hurricane insurance."
Testifying to a U.S. House subcommittee in March on behalf of the NAIC, McCarty noted that natural disasters are not all regional events, but neverthless have national implications. McCarty provided data showing the Great Lakes and Plains states will contribute approximately $26 billion for Katrina recovery initiatives, based on their percentage of citizens filing federal tax returns. Still, lawmakers in those states and others remain unconvinced.
Florida Senator Steve Geller, a former president of the National Conference of Insurance Legislators, is increasingly frustrated at his failure to convince fellow lawmakers of the benefits of a nationwide catastrophe fund. After four years of study, the organization has decided to give it more study. And almost everyone in Tallahassee and Washington D.C. know what more study and commissions are synonyms for in the legislative process: Status Quo.
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