The CEA considers a tax by any other name
The CEA’s CEO, Glenn Pomeroy, on Wednesday presented two proposals, one laudatory and one lamentable, to the CEA Board of Directors — one designed to improve the state’s earthquake mitigation efforts and the other to increase the earthquake insurance take-up rate.
The laudable proposal would have the CEA seek legislative authority to establish a mitigation-financing program that will allow homeowners to pay for the cost of retrofitting their homes as part of their property tax bill. Such a program would be similar to the Property Assessed Clean Energy concept that R Street has enthusiastically embraced in the past.
The lamentable proposal, a plan to realize “risk-transfer cost savings,” is an effort to displace the costs of an earthquake from CEA policyholders to a broader pool of insureds: those without a CEA policy but insured by a CEA participating insurer. In other words, it’s a potential tax that would hit virtually all Californians.
The CEA’s plan envisions assessing Californians by introducing a layer of post-event bonds to the CEA’s capital structure. Borrowing to finance losses that have already occurred would allow the CEA to reduce its reliance on reinsurance. That would, according to the CEA, allow it to lower its rates. Lower rates would, in theory, encourage more Californians to purchase earthquake insurance.
Pomeroy made much of the fact that reinsurance is the CEA’s largest cost, and maintained that “we need to be less dependent on it to make our product ever more affordable.”
No doubt, increasing the earthquake insurance take-up rate and lowering earthquake insurance rates are laudable goals, but the CEA is going about it all wrong. Reducing reliance on reinsurance requires two significant and undesirable policy changes. First, it shifts risk-financing from pre-event to post-event and second, it displaces financing responsibility from the private realm to he public realm.
The pitfalls of post-event funding are manifest. Post-event funding would diminish the CEA’s ability to prospectively finance subsequent losses and would force the authority to gamble that subsequent assessments would not be necessary. Further, post-event funding would concentrate catastrophe risk in California. Concentrating catastrophe risk guarantees an outsized and long-tailed economic impact within the state.
Florida’s Citizens Property Insurance Corp., another catastrophe-focused, state-run insurance instrumentality, is an archetype of the post-event funding folly. Its reliance on post-event funding led to more than a decade of assessments, in spite of an unprecedented pause in hurricane activity. Citizens seems to have learned its lesson and is now seeking to fund more of its risk with pre-event reinsurance from the private market.
The intrinsic shortcomings of post-event bonding aside, the timing of CEA’s legislative effort is strange. The CEA is seeking to reduce its reliance on reinsurance at exactly the moment that market conditions are such that the CEA could lock in longer-term reinsurance products at lower rates. It was not without some irony that the CEA’s own financial advisor, Kapil Bhatia of Raymond James & Associates Inc., testified before the board: “there is a record level of capital in the reinsurance market.”
Of course, the CEA is well aware of the value to be had on the reinsurance market. The CEA is filing for a rate decrease with the California Department of Insurance based largely on a 16 percent decrease in reinsurance premium that it has realized in the last year.
Given the value proposition of reinsurance, and the increasing availability of capital from the alternative market, there is sufficient financial room to achieve the universal goal of increasing the earthquake insurance up-take rate without shifting risk onto the public.
This raises the question: why is the CEA seeking to reduce its reliance on a method of risk-transfer that was largely responsible for the very rate decreases that it is now so proudly touting?
The answer is straightforward. Pomeroy believes that earthquake exposure is a public liability that all Californians, regardless of their risk, share. Under this rationale, transferring risk onto the public is an appropriate substitute for personal responsibility. Post-event bonds are the first step.
The proposal is a tax, plain and simple. And the last thing California needs is yet another tax.