Saturday, 2 September 2017

Climate change: subsidies, the insurance industry and behavioural economics

Nobody seems to be taking the increased risk of flooding seriously - whether estate agents, planners, politicians, developers or house-buyers:
Futures Forum: Flooding and urban sprawl

Perhaps we need to listen to what the market is telling us, rather than encouraging bad behaviour. Because the market recognises the reality of climate change:

Hurricane Harvey: How subsidised insurance leads to unsafe homes

Sep 1, 2017

In Depth: A US federal programme may be encouraging housebuilding on flood plains

An old and expensive problem

For some parts of the US, flooding had been so common and so expensive for such a long period of time that private insurers all but stopped offering flood insurance for homes.

So, in 1968, the US government passed a bill to instigate a National Flood Insurance Program (NFIP). The Federal Emergency Management Agency says the program "aims to reduce the impact of flooding on private and public structures", and that it does so "by providing affordable insurance to property owners and by encouraging communities to adopt and enforce floodplain management regulations".

While private insurers cover homes, the bills are ultimately paid by the federal government, says the Washington Post. "People who couldn’t be insured for flood damage before can under the NFIP," the Washington Post says, with the program offering insurance to those who need it because they have a federally backed mortgage and live in highly flood-prone area.

Cheap land

The death and destruction left in the wake of Hurricane Harvey might seem to be a good reason for the US government to renew the flood insurance program before the deadline passes next month. Those in harm's way clearly need all the help they can get from the government.

But critics of the program blame the NFIP for the destruction caused by Harvey, and say that its renewal will lead to further devastation in the future. "Houston’s horrible situation is the precise argument for why the program needs to be wound down," says MarketWatch. Subsidised insurance for those who live in highly flood-prone regions provides an incentive for companies to build housing in such areas, the site argues.

Hurricane Harvey: How subsidised insurance leads to unsafe homes | The Week UK

How the Insurance Industry Can Push Us to Prepare for Climate Change

Matthew E. Kahn AUGUST 28, 2017

Climate change risk is rising, and yet behavioral economics research argues that we are collectively underinvesting in protecting ourselves. 

In The Ostrich Paradox: Why We Underprepare for Disasters, Robert Meyer and Howard Kunreuther point to several personal traits that expose us to greater risk from natural disasters. First, individuals focus on short time horizons and thus underprepare for future threats. Second, when major disasters do occur, individuals are shocked but quickly begin to let their guard down again. Third, people are over-optimistic and thus underestimate their own risk exposure.

And the risks are real: Zillow’s research predicts that $400 billion dollars of real estate value in Florida could be at risk from climate change by the year 2100.

It might seem, then, that private insurance can be of little help in addressing climate change. There’s concern that for-profit insurers won’t want to insure risky properties, and that individuals won’t have the wherewithal to buy insurance plans in the first place. It’s certainly true that private insurance is not enough, on its own, to mitigate and adapt to climate change. Nor can insurance fully prevent the massive harm caused by storms like Hurricane Harvey, which recently struck Houston, killing at least several residents and causing considerable damage.

Nonetheless, private insurance has a significant role to play. And we believe that the concerns raised by behavioral economics are overblown. Sure, we aren’t perfectly rational. But the emerging challenge of reducing risk exposure for coastal residents creates new opportunities for firms that can innovate and provide new solutions. Innovations in spatial sciences, combined with big data, raise the possibility of the insurance industry introducing innovative pricing strategies that induce private real estate owners and local governments to take efforts that together yield a more resilient real estate capital stock. In short, the insurance industry is adapting in order to profit from climate risk, and in doing so it will help society adapt as well.

Better Data Can Help Insurers More Accurately Price Climate Risk

Dating back to at least F. A. Hayek, economists have emphasized the central role that price signals play in markets. If it’s expensive to insure a house on the coast, individuals will have an incentive to live elsewhere. If insurers offer a discount for climate-proofing homes, homeowners will likewise have an incentive to make that investment.

How the Insurance Industry Can Push Us to Prepare for Climate Change

Insurance industry prices warming into Hurricane Harvey cost

Because US infrastructure is not built to withstand climate change the cost of the disaster will be relatively high

Motorists watch as flood waters from the Guadalupe river spill over a Texas highway. Photograph: Eric Gay/AP

Fiona Harvey and Jonathan Watts

Friday 1 September 2017

Hurricane Katrina in 2005 was “the first taste of a bitter cup that will be proffered to us over and over again,” according to former US vice president Al Gore at the time.

Since then, Hurricane Sandy in 2012 and now Hurricane Harvey have borne out this prediction. The latest storm may turn out to be less fatal than Katrina, which killed more than 1,800 people but in economic terms it may be as bad. Hurricane Katrina cost about $160bn (£124bn) in economic losses in today’s terms, accounting for the last decade’s inflation, while Sandy wrought about $70bn in damage.

Decade of disaster: a timeline of $1bn extreme weather damage in the US | World news | The Guardian

Preliminary estimates for the damage caused by Harvey are wide apart, spanning $90bn to $190bn, reflecting the difficulty of judging an unfolding disaster.

Bob Ward, policy and communications director at the Grantham Research Institute on Climate Change and the Environment, at the London School of Economics, says: “Hurricane Harvey may turn out to be the most damaging weather disaster to have hit the US. It will take some time before we know what the full cost is [and] in addition to the physical damage there will be the economic losses from businesses that cannot operate. If Houston is slow to recover from the impacts, the losses will mount.”

In the UK, motorists have been warned that petrol prices are likely to rise sharply as the effect of Hurricane Harvey on oil production is felt.

If past disasters are anything to go by, about half of the direct, local cost of Hurricane Harvey is likely to be picked up eventually by insurers, with the rest borne by the public purse and by individuals and businesses. Insurers have taken an increasingly active role in the last decade in warning of the potential for more intense storms, floods, droughts and other natural disasters as a result of climate change, and of our failure to protect a rising population and increasingly complex infrastructure against these effects.

“We have been working on climate change since the 1970s,” says Ernst Rauch, head of climate and public sector business development at Munich Re. “We are one of the largest risk takers and it is essential we understand these potential risks. This is crucial to us.”

For insurers, the key issue is the resilience of populations and infrastructure – the ability to deal with disasters when they happen. In most situations, this requires government planning, working with the private sector to help proof homes and buildings against severe weather. But while insurers have grown acutely aware of these risks, governments and other parts of the private sector have lagged behind.

“We see the need at a global scale for societies and public risk managers like government and local authorities to pay more attention to the reduction of risk and resilience building,” says Rauch. “Otherwise we will see an ongoing increase in losses, driven and intensified by climate change.”

Caspar Honegger, who heads global flood peril assessment at Swiss Re, reports that after Superstorm Sandy hit New York, the city asked his team to analyse the climate risks for the next 40 years. They found that rising sea levels and the increasing frequency of storms would raise average annual losses by 170% to $4.4bn.

ClimateWise – a coalition of 29 insurers including Allianz, Lloyd’s, Zurich, Prudential and Swiss Re – warned of a growing “protection gap” between the cost of natural disasters and the amount insured for. The group said weather catastrophes – which are now six times more frequent than in 1950 – are making some assets uninsurable and advised more investment in building resilience against floods and heat waves.

The online property company Zillow estimates that 1.9 million homes in the US, valued at a combined $882bn, could be submerged by the end of the century as sea levels rise and storm surges erode coastlines and riverbanks. Florida would be worst affected, losing one in eight properties, followed by Hawaii with one in 10.

Insurers now treat this as a board level issue, with chief executives reporting to their shareholders on the increasing risk from climate-related disasters, and working with the UN, World Bank and national governments. As their business relies on understanding risk, they have taken a lead not just in pricing in new risks but in encouraging efforts to reduce them. Insurers are among the top global investors in renewable energy, and some are considering divesting from fossil fuels. They have funded studies of vulnerability and ways to adapt to climate change, and urged governments to protect their populations from the potential ravages of warming.

Yet not enough is being done, warns Rauch. “Not enough account is taken of climate change at the public decision-making level. Climate change is not something that is going to have an impact in a hundred years, its impact is already felt today. That’s why we need to adapt to the consequences, such as by investing in infrastructure, fortifying homes, building levees and dykes, maybe removing homes from highly exposed zones.”

In part this lack of preparedness is down to the cost of equipping communities with better protection and better recovery mechanisms. But for more than a decade, since the pivotal Stern review of the economics of climate change in 2006, an increasing body of work has demonstrated that dealing with emissions and the probable effects of climate change now will save money in the medium and longer term. “The longer we fail to act the more expensive it will be; the sooner we act, the cheaper. Doing nothing will be much more expensive,” says Rauch.

But insurance does offer one big advantage in assessing the likely impacts of climate disasters, says Rauch. “We are very transparent. Insurance premiums reflect risk based on two factors: first is the underlying hazard, that is the probability of an event occurring, and the second is the vulnerability if an event occurs. If the hazard is driven up by climate change, you can still reduce vulnerability, by investing in protection and fortifying homes, such as by building them to higher standards. Then the premiums could remain constant. But if you keep everything as it is today and the risk goes up, they would have to rise.”

In Florida, for instance, lax building regulations mean buildings are more vulnerable, as well as more at risk, and premiums are higher accordingly – more than $2,000 for insurance coverage that would cost less than €200 in Germany, according to Rauch. “At the end of the day, insurance is a simple system and one of the biggest benefits is that we put a price tag on risk – so in a functioning market everyone can understand where the risk is higher.”

Insurance industry prices warming into Hurricane Harvey cost | Business | The Guardian

No comments: