The damage, destruction, and loss of life caused by natural disasters has exploded over the past two decades due to climate change, with 2021 shaping up to be one of the worst, if not the worst, years ever. From devastating wildfires in the Western states to ferocious hurricanes and flooding in the Gulf and East Coast states, the losses caused by extreme weather events will only continue to get worse in the years and decades to come.
Climate change is bringing death and destruction to areas previously believed to be at relatively low risk for catastrophic natural disasters, so this is not a situation where the only people impacted assumed the risk of destruction by choosing to build in areas known to be high-risk. Indeed, experts estimate more than 40 million homes worth $187 billion currently are at high risk of destruction due to wildfires.
Flooding accounts for 90% of all natural catastrophe losses, and four hurricanes since 2005—Katrina, Maria, Sandy, and Harvey—caused over $900 billion in damage collectively. Hurricane Ida’s damage could surpass $95 billion, according to an AccuWeather estimate.
While America simultaneously drowns and burns, private insurers that sell homeowners insurance and commercial property insurance typically exclude coverage for flood damage, and they generally will not insure properties located in areas at high risk for wildfires unless they are forced to do so by law.
Why Insurers Don’t Cover Flooding
This coverage gap has occurred because natural disasters are considered correlated risks, which means they impact numerous properties in the same geographic area at approximately the same time. Insurers claim correlated risks cannot be insured profitably because insurers are unable to collect enough premiums from a diverse enough pool of insureds to price the risk fully and accurately.
Consequently, under the current private insurance regime, much of the damage that is, and will be, caused by climate change fueled natural catastrophes is uninsured. Even after there is a global will to address climate change—a worldwide collective action problem—reversing the effects of climate change will take decades unless there are technological breakthroughs.
So, what can be done to deal with the devastating destruction that climate change-fueled disasters will cause given that the effects of climate change will be with us for the foreseeable future?
Use Zoning Laws, Building Codes to Limit Losses
Part of the answer is to use state and local zoning laws to prevent future development in high-risk areas. Another part of the answer is to require that repairs to existing properties be done to standards that will withstand future natural catastrophes.
Florida’s hurricane building codes that were created after Hurricane Andrew in 1992 are an example, as are the rebuilding requirements for flooded properties under the National Flood Insurance Program (NFIP).
But those measures will do nothing to aid the millions of existing property owners whose properties will be destroyed by natural disasters in the coming years. So, figuring out how to insure catastrophic losses is a necessary part of the answer.
The government will need to be part of the answer and numerous approaches can be taken.
A Need for Federal Involvement
One approach would be for Congress to mandate that homeowners insurance and commercial property insurance cover losses from natural disasters. To avoid a mass exodus of private insurers from the insurance market with such a mandate, however, the federal government likely would need to serve as a reinsurer for private insurers’ losses above a certain stop-loss point.
It does this now for terrorism losses under the Terrorism Risk Insurance Act of 2002. One advantage of this approach is that it would preserve a competitive private insurance market.
Another approach would be for the federal government
Combining the coverages for multiple types of natural catastrophes under a single policy would address the major problems that exist with single-peril insurance, such as the National Flood Insurance Program. Very few people buy standalone flood insurance under the NFIP, due to ignorance regarding their risk of flooding and the high cost of the insurance.
Flood insurance is expensive because only the people at the highest risk of flooding buy it, so the pool of insureds funding the program does not include many low-risk properties. By bundling coverages for the various natural disaster risks into a single policy, the insurance program would have a pool of insureds with diverse risk profiles.
Also, as is currently the case for homeowners insurance, banks likely would require properties with mortgages to own a natural disaster policy to ensure that the amount mortgaged is protected. Consequently, millions more properties would become insured for natural disaster-related losses than currently are.
It is debatable what the best approach is. One thing, however, is not. Climate change-fueled natural disasters have arrived and will only be getting worse. Instead of the current approach, which uses ad hoc, post-loss government bailouts funded by taxpayers to deliver aid to affected property owners, America should consider a new approach.
This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.
Christopher C. French is a law professor at Penn State Law. He is the author of a casebook, “Insurance Law and Practice: Cases, Materials, and Exercises,” and a co-author of an insurance law reference book, “Insurance Law in a Nutshell.” He was formerly a litigation partner at K&L Gates LLP.