Natural Disasters: US Home Insurance Risks Financial Crisis

CHRISTIANE AMANPOUR, CHIEF INTERNATIONAL ANCHOR: Now, around the world climate change, of course, is impacting the way we live. In the United States, the affordable housing crisis is being pushed to the brink as insurers struggle to cover affected homes. Bloomberg reporter Leslie Kaufman joins Hari Sreenivasan now to discuss her recent reporting on this very issue.

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HARI SREENIVASAN, INTERNATIONAL CORRESPONDENT: Christiane, thanks. Leslie Kaufman, thanks so much for joining us. You wrote a recent piece in Bloomberg called “A Hidden Crisis in U.S. Housing.” And you are not talking about interest rates, you’re not talking about kind of inventory clogs. What’s the crisis you’re describing?

LESLIE KAUFMAN, REPORTER, BLOOMBERG: As I’m sure you’ve read about, people are having trouble getting insurance. But our story goes a little bit deeper. It looks not only — it looks at what happens when the private market pulls out and the public market takes in, that is, when government starts insuring people. And what we’re seeing is that governments, particularly in states with climate crises like California and Florida, are being overwhelmed with policies, and they may not have a way to pay for them if there’s a big catastrophe down the road.

SREENIVASAN: So, these insurers of last resort, these state agencies that will ultimately offer a homeowner insurance from a hurricane or a wildfire, how are they able to weather a market that private insurers have figured out is too risky for them?

KAUFMAN: Right. So, the answer is they haven’t figured it out. And that’s the dirty secret to all of this, which is sometimes governments engage in what we call wishful thinking. They want the problem to go away. They want insurance to be available. So, they offer it at less than market rates. But if there’s a big catastrophe down the road, someone’s going to have to bail them out. And it’s likely going to be the taxpayers either in that state or nationally.

SREENIVASAN: So, give me an example. How far is the spread, I guess, between the policies and what we think we are insured for versus what the state can actually write a check for? Because it seems like over the past 15, 20 years in our lifetimes that these big natural disasters are getting more frequent.

KAUFMAN: They are indeed. And that’s what really underlies this insurance crisis. Insurance is fundamental to our financial system. We don’t think about it very often. And if it comes up, we want to have our eyes glaze over. But it’s the basis of (INAUDIBLE) our entire financial system. Insurance requires being able to predict risk. For a long time, that wasn’t so hard. You look at the past, that would be a pretty good guess about the future. But climate change has upset that entire dynamic. Climate change has meant that every year, or over a course of a decade, things get noticeably worse. NOAA, which is the National Oceanic Administration, has said, look, these billion-dollar disasters, they keep happening more and more frequently. They would happen three times a year annually in the 1980s. Now, they’re happening 18, 19 times a year. So, there’s really been a change.

SREENIVASAN: So, if I’m living in Florida, if I’m, for example, a new homeowner, or thinking about buying a home at some portion of that transaction, I’m going to think about how much is it going to cost to insure this place, right? And if it’s an uninsurable property, I’m probably not going to buy it because it’s one of the biggest investments I would make in my life. So, it seems like insurance is going to have a ripple effect on lots of other transactions.

KAUFMAN: I think insurance, down the line, is going to be where the rubber hits the road on climate change. Right now, insurance hasn’t been enough to dissuade people from buying in the riskiest areas. And part of the reason is that the state has stepped in and started to subsidize it. We’ve made it cheaper to live in those areas than it should be. And that’s the case with coastal floodplains since the 1960s or ’70s, really, when we created the National Flood Insurance Program. And now, what we’re seeing with the states is they’re beginning to do the same thing with wildfire and with hurricanes. They’re saying, look, we understand it’s too expensive to live there. So, we’ll create a policy that’s affordable, and that’s the problem.

SREENIVASAN: So, besides the states creating these kind of backstop agencies that might not be funded, as you were pointing out, or appropriately funded, have we made certain policies that actually prohibit the private marketplace from doing what it would want? Because I guess, I mean, insurance people, well, that’s what they do, they assess risk, right? So, if there is going to be a greater risk in an area, in a perfect market, there should be a policy available. It’ll just cost a really, really a lot of money.

KAUFMAN: Well, that’s a very smart and good point. Insurance companies will tell you there’s nothing that’s uninsurable. It’s just a question of what you’re willing to pay. But all state insurance markets are regulated. And some of them, the big one being California, passed something called Proposition 103. And that actually limits the amount they’re allowed to raise their premiums every year without a review. And so, the result is that that’s way underpriced. In addition, the state plans are often way underpriced. These are the places that will come in and fill in. And again, in Florida and California, they’re both artificially underpriced. And so, somewhere that risk has got to be covered. And so, what’ll happen, we think, is when there’s a huge catastrophe, imagine a wildfire the size of the campfire, category 5 hurricane hitting Miami, someone’s going to have to pay for that.

SREENIVASAN: So, what would the plan be if a worst-case scenario or mega catastrophe did hit a super population center like a Miami or a San Francisco and the state has to write a check and lots of checks and they realize we cannot cover this? What is the state likely to do next?

KAUFMAN: Right. So, this is the big question. There was legislative hearings in California, the head of their state insurance — backed insurance plan has said, we don’t have the money, we’re going to have to do assessments. Florida has a more explicit policy. If there is a category 5 hurricane that comes on in, they are allowed to write an assessment on every policy holder in the state. And that’s not just property, that’s your motorcycle, that’s your home, that’s your business. But consider this, if a category 5 hurricane was to hit Miami, they estimate it could cost 1.3 trillion in damages. That would be an assessment of roughly 60,000 per person in Florida. Now, some of that would be covered by insurance and reinsurance, but that could be a pretty stiff bill for every single person in the state. And people are concerned it would lead to a federal bailout.

SREENIVASAN: So, if I’m hearing you correctly then, regardless of whether you lived in Miami or not, depending on the size of the catastrophe, you’re going to be footing part of the bill.

KAUFMAN: Yes, Florida is quite explicit. They have a state plan that charges about 30 percent under market. It’s been growing tremendously. They have $525 billion in exposure. If there was a major catastrophe, the only way they’ve been able to keep insurance in the state is by promising not to charge them, but to say every single person who has an insurance policyholder will have a fee to cover the deficit.

SREENIVASAN: And what about California? Is California in any better shape when it comes to, unfortunately, these horrible wildfires that we’ve seen grow in scale and lethality?

KAUFMAN: I think California is actually in worse shape because they haven’t dealt with the worst-case scenario yet. There was just, as I said, a legislative hearing where they brought in the head of the California state-backed insurance, and she has said as much, if there’s a catastrophe, we are not prepared. They do not have a specific plan in place for what will happen if there is a major catastrophe, and they are working on it right now. But they are not explicitly prepared.

SREENIVASAN: Is there a case where there will not be any private insurers left and there will only be kind of state-backed insurers?

KAUFMAN: Well, for flood right now, 95 percent is the government. We’ve already pushed the private insurance market largely out of the flood industry. And right now, Congressman Adam Schiff has proposed a bill that would expand federal protections and would include fire and hurricanes. You can see a situation in which people slowly move to the federal government because it’s just less expensive. And let’s remember, the flood insurance program is 20 billion in deficit. It’s not like the problem goes away, it just gets buried.

SREENIVASAN: Is there a significant ripple effect if one of these states, insurers of last resorts, or buckles?

KAUFMAN: Yes, we think that they’re very significant. And we’re not the only ones. I mean, Sheldon Whitehouse, who’s a senator, has been looking into this. Because the implications of insurance failing are, like I said, they’re at the — it’s at the fundamental core of our society. We need insurance and risk to be covered. And if we get to the point where it’s not, the federal government simply can’t pick it all up. There is going to be a breaking point.

SREENIVASAN: Does that breaking point look like the cascading effects that we saw in the financial crisis, what started on Wall Street, ended up having huge effects in the rest of the country?

KAUFMAN: Very possibly. There are a lot of different scenarios. But consider a really big wildfire in California in which billions need to be covered. California reaches out to the insurance companies and said, you have to provide this money. So, even though they haven’t agreed to directly insure them, the state makes as a condition of being in the state that they have to participate. And once more, you have to participate for two years, even after you’ve pulled out. So, let’s say as an insurer, I’ve decided California is too risky to insure. And a year later, a major catastrophe, the government of California reaches out to me now and says, well, you have to help us cover this. And you say, no way, I’m not going to do it. And then what you have is a crisis. You have insurance failing. You have houses that are uncovered, mortgages that are uncovered. You lose confidence in a market. And as we know, that can have powerful ramifications.

SREENIVASAN: So, are there any strategies that these companies, the private ones are coming up with to try to work with the state? Do they even see any potential? I mean, the people — the private companies who choose to leave these markets who did their own math and say, it’s just not worth insuring homes in this state anymore, what would incentivize them to come back?

KAUFMAN: Right. So, this is the big question. And actually, it’s a huge question for the insurance companies because in the end, they want to sell policies because that’s how they make money. So, there are two basic tools. One is building codes, earthquake proof, wildfire proof, hurricane proof, wind proof, flood proof. For instance, in a wildfire zone, you can demand that the five feet around the house has no vegetation or anything flammable. You can demand that houses get put up on stilts. And those things do make a difference. And the two way you get there is you get through building codes and through insurance incentives. So, the insurance industry is very much pushing for hardening homes, saying they will reward people for doing those things. But the thing about insurance is they sell it to you every year. And as climate change makes things worse and worse, something that might help this year might not be enough in the future.

SREENIVASAN: You know, if you look at this reality, and if climate change is going to make things more expensive, like insurance, are we going to see kind of a fork in the road here, where basically only really wealthy people can even afford to protect those investments with insurance?

KAUFMAN: So, we’ve seen that fork in the road already in many places that have been hit by hurricanes. Like if you look back at someplace like Tampa being rebuilt after a hurricane, you’ll find that in the best coastal areas it’s almost all rich people, because they look at a bill of $8,000 or $10,000 or even $18,000 a year for insurance as a cost of doing business. That’s enough to drive other people out of a market.

SREENIVASAN: We’ve talked a lot about California and Florida, but your story also goes into states like Colorado where wildfires are a significant threat there.

KAUFMAN: Right. So, Colorado is a really interesting example. Colorado is not a place you think of being in trouble. But Colorado has had to start the first state-backed insurance plan that’s been created in a long time. And the reason is because wildfires are tearing through the place and they’ve seen incredible increases. We talked to one person in our story who saw their bill go up by a factor of 10. He runs an inn, and it went from 70,000 to, I think — or maybe 40,000 to 400,000. It was a huge increase. And so, the state is starting to step in, because what happens is businesses have to leave unless there’s insurance.

SREENIVASAN: From your description of how integral insurance is to the overall economy, especially to the real estate markets, there seems to be resistance to — from state legislatures and otherwise, to making this type of information more transparent because it might slow down those necessary transactions, that growth that they want so badly.

KAUFMAN: Right. Well, states oppose the prices that come with real information. The people that have so far opposed giving all this information out are the insurance companies. They tell you it’s proprietary. So, the question is how much of — how much they’re raising our prices has to do with actual risk and how much of it has to do with the profit margin. And a lot of this is not public. That’s why when First Street Foundation made information available, it was so exciting to a lot of people because this has all been in black box. It’s all been hidden by the insurance companies. But the question is, and it’s a real one, how accurate can we be about any individual property and their risk going out 30 years? It’s something I think we as a nation and really as a world are going to have to struggle with.

SREENIVASAN: Is there anything happening in the rest of the planet, other countries who are trying to figure out how to appropriately price this, which might keep private insurers in the market, might not have to have their federal governments as an insurer of last resort?

KAUFMAN: Well, that’s a whole another very interesting question. No one is as heavily insured as the United States. The only people that come close is Western Europe. Other countries work very much on a government stepping in model. But that’s been crushing. In places like Pakistan and the Caribbean, where there have been huge disasters, the governments just don’t have the money to step in. They’d like to see Western countries split the bill. Western countries have so far resisted. So, they’re beginning to sell something called parametric insurance or cap bonds. These are things that if a disaster hits a certain level, they automatically get a payout. And this is cheaper forms of insurance. But the whole world will struggle with how to control and how to hurt damages as these natural disasters get worse and worse.

SREENIVASAN: Leslie Kaufman, a reporter from Bloomberg, thanks so much.

KAUFMAN: Thank you.