New RAND Study on Hurricane Insurance Markets

The RAND CORP. an interesting new study on the breakdown (apparent failure) of insurance markets for wind damage along the Gulf Coast.  This might be particularly interesting for the growing number of academics focusing on catastrophe/disaster law.

This is the excerpt on the pros and cons of regulation vs private markets:

Private insurance markets work best for high-frequency events without widespread impact, such as auto insurance. But the study notes that the private markets are less effective for infrequent, catastrophic events – like hurricanes – that affect a large number of policyholders at the same time. To reduce the risk of financial collapse, insurers may charge premiums that substantially exceed the expected value of losses.

The study also says that private insurance markets are prone to volatile swings in the price of insurance. This makes it difficult for business to rebuild after a hurricane when prices are high, and can discourage loss-mitigation measures when memory of the event fades and prices are low.

Government can in theory set insurance prices closer to the long-run expected loss for hurricanes and other natural disasters because tax revenue eliminates concerns about insolvency. However, the study says government officials can face political pressure to subsidize one group over another, or set premiums too low. As a result, low insurance rates could encourage the construction of buildings in high-risk areas that are not sufficiently wind resistant. Government intervention may also compound the problem by reducing private insurers' willing to provide insurance.  The study identifies areas where further research and analysis would help identify what balance between private and government programs would be desirable.

-Dru Stevenson