Yesterday's newsletter should have said May 31, not May 30. Oops. I knew that May has 31 days but was mixed up on the dates from the holiday weekend. The months that have 30 days are April, June, September, and November. February has 28 or 29 days, and the other 7 months have 31 days. This is how we get to 365 or 366 days, which is 52 weeks plus 1–2 days, which accounts for the need for different calendars each year. The earth revolves around the sun about once every 365.24 rotations (days). (If only it was 364.00 days, that would be very convenient because we wouldn't need leap years or a new calendar each year—June 1 would be on the same day of the week every year.)
Today I am continuing, my discussion of homeowners' insurance. This is a bit more academic than my other letters, and I promise we will return to more visceral topics soon. Also, a note: I am using the term "homeowners' insurance" as that's what the largest number of Floridians have and can relate to, but am discussing in broad terms that include other kinds of property insurance (e.g., commercial).
Yesterday, I said I would cover "risk pooling, moral hazard, litigation reform, and the impacts of the climate crisis and predatory over-development" in this 2nd part, having dedicated part 1 to introducing the homeowners' insurance crisis in Florida and providing a general background on types of insurance and the fundamental purpose of insurance in general (to protect against devastating loss). I am going to just cover the first two (risk pooling and moral hazard) and get into litigation reform and climate crisis + over-development in part 3. There will be some overlap, particularly between the discussion of moral hazard here and the discussion of the climate crisis in the 3rd part.
I will start with the first issue: Risk pooling. This is the idea of combining risk together to reduce it. This term is often used in health insurance, particularly when discussing the Affordable Care Act ("Obamacare") individual mandate (no longer in force) as being needed to reduce insurance premiums for everyone by including healthier individuals in the risk pool. But, it can be used in many contexts. Overall, insurance pools risk by collecting premiums across a pool of customers where a costly event is unlikely, but can be reliably predicted at a large scale. Term life insurance is a good example because the risk is low and tends to be discrete (does not come in waves). The insurance company knows this and models the risk probability to provide a low premium with a large payout, knowing that only a tiny number of people will die in a given year. A death can be financially devastating to any one individual family, but when included in an insurance scheme with many other families, the financial risk is ameliorated.
Risk pooling is also important to pension funds, Social Security, and our overall experiment as a nation—but that is a discussion for another day.
Moral hazard naturally flows from a discussion of risk pooling, property insurance, and government intervention. Insurance companies make money by modeling and predicting risk, and excluding risks they cannot afford, or re-insuring on the reinsurance market with other insurance companies to create an even larger risk pool. But, the risk of catastrophic loss is especially bad for homeowners' insurance companies in Florida. With life insurance, people typically die independent of other policyholders, but with homeowners' insurance, risk exposure can be enormous, if there is an earthquake, firestorm, bad hurricane, or other widespread disaster. Homeowners' policies already exclude flood coverage, which must be purchased separately and is required for about 20% of homeowners' with mortgages and high flood risk. But, even then, the damages from a hurricane can be enormous. This has happened with prior hurricanes, and will only get worse in the future. This is one of the two main reasons insurance companies are drastically raising premiums, halting issuance of new policies in Florida, canceling existing policies, or even going bankrupt or pulling out of Florida entirely.
Moral hazard ensues when the government steps in to cover the risk of loss, and this provides an incentive to continue doing something stupid because people and businesses know they will be bailed out by the taxpayers. So, high rises keep going up near the ocean, homes keep being built in low-lying and flood-prone areas, and so on. In Florida, our largest insurance company was created by the legislature in 2002, called Citizens Property Insurance Corporation, which is basically the textbook definition of moral hazard. This corporation was created in the aftermath of Hurricane Andrew's devastation in 1992—the costliest hurricane in American history up to that point, which bankrupted many insurers and led to about 1 million homeowners being unable to find insurance anywhere. Citizens offers homeowners' insurance to those no other insurance company will touch, by collectivizing risk with the backing of the taxpayers. (Ironically, this is championed by Republicans while they demonize "socialism" as a boogeyman—but this is an example of socialism!)
Moral hazard is also created by the federal government through the Federal Emergency Management Agency (FEMA) providing disaster relief funds, and numerous other mechanisms. Beyond the homeowners' insurance discussion, moral hazard occurs at an even larger scale with the Federal Reserve, fiscal policy, and the "too big to fail" doctrine from the 2008 financial crisis. The most compelling criticism of these programs, in my opinion, is that they reward rich people for their misbehavior with even more taxpayer funds—the markings of a plutocratic kleptocracy. Government should work for the people, not the wealthy.
Politicians often couch these programs in terms of middle-class prosperity, but astute observers know that the beneficiaries are more often wealthy (or, at least, big spenders who are in debt up to their eyeballs). People don't live in oceanfront homes cheaply, and in fact these are often rarely-occupied vacation homes of multi-millionaires. Thus, the moral hazard of backstopping their risk with public guarantees, and of bailing them out when the inevitable disaster occurs, is even more egregious than widely known.
Of course, there are struggling homeowners who need help and should not be punished for living in low-lying areas by necessity rather than choice, such as blacks who were forced into flood-prone areas like midtown Daytona Beach, during and after segregation. But, there has also been tens of billions of dollars of dangerous, new developments, particularly in South Florida and the Tampa Bay area, that would never have occurred if not being induced by the government's creation of a moral hazard.
Now, the chickens are coming home to roost, especially with the ever-enlarging impacts of climate change. I will cover this and litigation issues in part 3 of my series on homeowners' insurance in Florida.
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Notes:
https://en.wikipedia.org/wiki/Risk_pool
https://floridafloodinsurance.org/faqs
https://en.wikipedia.org/wiki/Moral_hazard
https://www.fema.gov/disaster/historic
https://cei.org/blog/beach-house-bummer-state-run-insurance-fuels-risky-coastal-development/
https://www.scientificamerican.com/article/flooding-disproportionately-harms-black-neighborhoods/