As Congress considers reauthorization of the National Flood Insurance Program (NFIP), it should take into account specific insurance market, technological advances and other developments in weighing its options, according to the nation’s actuaries.
A new report, “National Flood Insurance Program: Challenges and Solutions,” from the 19,000-member American Academy of Actuaries describes premium setting and program financing options for addressing the NFIP’s debt and future obligations, including both public and private financing mechanisms, and other possible reforms.
The flood program, which is set to expire in September, is $24.6 billion in debt to the U.S. Treasury Department.
The report says that improvements in how flood risks are assessed and modeled are reducing the uncertainties surrounding flood risk and could lead to greater market participation by private insurers and reinsurers.
“The combination of powerful computers and ‘Big Data’ has transformed understanding of hazards such as flood. This new understanding opens up new opportunities to insure and reinsure flood risk in the private market. It also offers the NFIP new ways to align premium with risk, reducing cross-subsidies and encouraging mitigation by sending appropriate price signals to consumers,” the authors write.
The report says the development of the new powerful models has already encouraged more private reinsurers and insurers to offer flood coverage in the United States, something common in other parts of the world.
“Better data and more advanced models are giving us a clearer view of flood risk, which opens up additional opportunities for private insurers and reinsurers to underwrite flood risk. That may have important implications for the NFIP,” said Rade Musulin, Academy vice president for Casualty, the chairperson of the flood work group responsible for the report. “The reauthorization process can lead to reassessment of the role of the NFIP, which historically has operated under financial conditions and rules different from those of private issuers, and with a different purpose.”
The Academy’s examination of reform approaches and aspects of the NFIP and the private flood insurance market covers:
- Options for paying for the program’s debt and financing its future obligations, including consideration of where public contributions to NFIP finances may be appropriate and of the time horizon to be used to measure future obligations.
- The need for clarity around NFIP funding sources for actuarially sound rates to be computed.
- Take-up rates in “low-risk” areas and the potential benefits and challenges of improving the NFIP risk pool to include more properties that are at lesser risk.
- How improved data and modeling may affect private market underwriting.
- Potential implications of flood insurance privatization, including the possibility of adverse selection for the NFIP if private insurers underwrite more policies, as well as incorporation of private flood insurers within the state-level system of insurance regulation.
- Evaluation of existing approaches to property insurance market challenges at the state level and whether they could be used or adapted for the NFIP.
- Assessment of the value of the non-insurance activities of the NFIP, such as promulgating maps and encouraging smart land use policy, and consideration of how changes in those activities might affect other federal budget outlays such as disaster assistance.
In addition, the Academy report encourages Congress to take a forward look at the NFIP in the context of rising sea levels, noting the prospect of sea level rise of 3 feet or more in the coming decades and observing that the United States is especially vulnerable to large property losses because of the amount of valuable property in at-risk coastal areas.
“In the face of rising sea levels and increased losses, it will be impossible [for the NFIP] to maintain current premiums, coverage, and eligibility without severe limits on building, strong mitigation requirements, or exposure to enormous program losses and additional U.S. debt,” the report says.
The authors caution that even with greater private sector participation in underwriting flood risk, the NFIP will most likely continue to insure a substantial number of policies if affordability is a concern. Also, private insurer involvement is likely to mean that the NFIP will experience adverse selection, potentially increasing its deficits, and that the NFIP’s ability to collect surcharges to repay its past debt will be reduced.
The authors encourage Congress to look at the experience of states in property insurance markets for hurricanes and earthquakes. In particular, the authors urge lawmakers to find ways to encourage flood coverage in areas perceived to be low risk. “Doing so would address problems of uninsured losses arising from events like the recent flooding in Louisiana, while potentially improving the system’s overall financial position by increasing revenue and spread of risk,” they write.
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