Since 1968, the National Flood Insurance Program (NFIP)—in a well-intentioned but ill-designed effort to help home and business owners in flood-prone regions—has provided flood insurance at below-market rates. Predictably, the program has racked up a significant amount of debt, discouraged private competition and innovation and distorted consumers’ ability to calculate the risk of living and building in flood-prone areas.
As Congress considers NFIP reauthorization this summer and fall, lawmakers ought to implement structural reforms that will benefit both insurance consumers and the American taxpayers.
It is a well-known economic adage that “if you subsidize something, you get more of it.” In this case, the NFIP’s practice of subsidizing insurance premiums for high-risk areas has created a moral hazard problem where the government insurance program actually encourages higher levels of risk-taking. This has turned out to be quite costly for the American taxpayer, as the NFIP is now over $25 billion in debt to the U.S. Treasury. The Government Accountability Office has found the program is unlikely ever to generate enough revenue to cover its costs, exposing the federal government to further financial risk.
Yet, the subsidies keep flowing to areas where floods are common, and where it may not otherwise be cost effective rebuild. There is no better evidence that the NFIP is encouraging risk than the fact that 25-30 percent of flood insurance claims in the NFIP system are generated by a mere 1 percent of properties that have government-backed insurance. This distortion of risk will continue to make the program fiscally unsustainable until the government ceases to offer insurance premiums at significantly below-market rates.
Unsurprisingly, regulations on what kinds of private market insurance lenders can accept, along with the subsidized rates, historically have made it difficult for insurance companies to offer competitive flood insurance plans. Private companies do not have the luxury losing $25 billion. Though previous reforms sought to level the playing field and move the NFIP toward risk-based rates, unclear language has continued to stymie private market development, limiting choice for consumers and putting taxpayers at continued risk. Among the issues that put private entities at a disadvantage is that NFIP policyholders who make the switch to private insurance are not considered to have continuous coverage, and therefore may have to pay significantly more should they ever decide to switch back.
Congress should look to Florida as an example of how to salvage a failing insurance system. Before state government enact reforms in 2010, Florida’s public insurance program, Citizens Property Insurance Corp., was fiscally unsound and the Florida taxpayers were exposed to high levels of risk in the event of another hurricane. State lawmakers incrementally raised premiums to be in line with the market rates and allowed private companies to assume many of the policies previously written by Citizens. As they did, the fiscal burden shifted from taxpayers to private entities.
The Flood Insurance Market Parity and Modernization Act, submitted in both the House and the Senate, would be an important first step to enable private market insurance to compete on a level playing field with government insurance. It would end clarify federal lending rules, allow insurers who participate in the NFIP’s Write Your Own program to also underwrite private flood insurance and end the practice of penalizing those who choose to purchase private coverage. It would also further the move toward a less distorted system and thus shift some of the burden off the taxpayers.
Despite passing the House unanimously in 2016, and passing the House Financial Services Committee unanimously last month as part of its package to reauthorize NFIP, the bill has not yet moved in the Senate. The Senate Banking Committee should take a lesson from their House colleagues and include this important clarification in their own legislation to reauthorize NFIP. Failing to do so would only ensure that, for many years to come, American homeowners will continue to be at the mercy of a failing government program, all on the taxpayer dime.
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