Should the federal government bail out state run disaster insurance programs? New legislation creating such a bailout is developing in Congress to strengthen earthquake insurance along the west coast. Two legislators in California, U.S. Rep. John Campbell (R-48) and U.S. Sen. Dianne Feinstein have proposed companions bills that are designed to strengthen the nation’s natural disaster recovery system by enacting the Earthquake Insurance Affordability Act (EIAA).
The two bills, H.R.3125 introduced in early October by Rep Campbell, and S.637, introduced earlier this year by Sen Feinstein allow the California Earthquake Authory, the main beneficiary of the bill, to replace some of its costly reinsurance with a limited amount of private-market debt backed by a federal guarantee.
In response to the two bills, a group of 10 free market and limited government groups sent a letter to Congress opposing the Earthquake Insurance Affordability Act. These groups argue that the EIAA cannot work as proposed, and that the Act would drive out a functioning private insurance market while benefiting only California and the CEA, not the country as a whole.
The letter from the 10 free market groups is reprinted below.
As representatives of groups concerned with sensible regulation, federal spending, free markets, consumer protection, taxes, and limited government, we are deeply troubled by proposals that would create federal loan guarantees for the California Earthquake Authority and other state-mandated earthquake insurers that might be created in the future. We think that such proposals (such as those included in H.R. 3125 and S. 637) however they are packaged, represent very poor public policy: they cannot possibly work as advertised, would displace a productive private industry, and represent a special favor for the State of California.
Proponents of federal loan guarantees for the California Earthquake Authority claim that having the federal government “backstop” will cost nothing or next to nothing; this is not true. While it may not receive a significant budget score short term, a federal guarantee will always cost more than private insurance. The reason is simple: through international markets, private insurance and reinsurance distribute risk all over the world and allow companies to make profits writing one type of coverage even when they pay out massive claims on another. But by focusing all risk in the United States and, indeed, on a single state, the federal government would have to charge more for its guarantees in order to break even. In addition, the simple existence of a federal backstop would create a considerable moral hazard for the entities that received it: while it’s current management is skilled and respected, it appears quite possible that the existence of a fed eral guarantee could lead future managers to take unnecessary risks.
Thus, either the guarantees will not save money for consumers (defeating their original purpose) or, much more likely, the federal government will systemically underprice its coverage and thereby leave taxpayers on the hook. Indeed, the California Earthquake Authority’s own proposals show that new revenues would have to be found in the wake of any major event. This would mean higher premiums for policyholders (which defeats the supposedly cost-lowering benefits) or more taxes or debt from some government entity. Either way, government-run earthquake insurance is not going to be free even if it ends up with a very modest budget score.
Additionally, there is no fundamental problem with the availability of earthquake insurance. CEA itself buys extensive earthquake reinsurance coverage and, for those willing to pay risk-adjusted rates, reinsurers will always sell more. While there is still no way to know when earthquakes will take place, the ability to determine where they are likely to hit has improved in recent years. This should, over time, lead to ever-greater willingness of the private market to write earthquake insurance. There is simply no case for replacing a functioning, private market with a government-backed one.
Finally, no state besides California has any sort of sizeable entity established by statute that writes earthquake insurance. We do not believe that it is appropriate for the federal government to establish any policy or program that confers benefits on one state alone. The proposals for a federal earthquake insurance backstop are a special pleading for a single state and not a valid topic for federal legislation.
In short, we ask that you approach any proposal to create a national earthquake insurance backstop, reinsurance fund, debt guarantee mechanism, or other pre-funded bailout with extreme skepticism.
The Heartland Institute
Americans for Tax Reform
The American Consumer Institute
Let Freedom Ring
Chairman, CEO and Treasurer
The American Civil Rights Union
Vice President, Policy
Americans for Prosperity
Dick Van Patten
American Family Business Institute
Taxpayers for Common Sense
60 Plus Association
Center for Freedom and Prosperity