January’s tragic earthquake around Los Angeles, like last year’s Midwestern floods and Southern Californian wildfires, once again highlights the government’s pernicious role both before and after the occurrence of natural disasters. As the government has become more involved in such matters, the losses from natural disasters have increased. That is no mere coincidence.
The government’s role has been responsible for helping to lure people, farms, and businesses to earthquake-prone regions, floodplains and hurricane zones who might not have been there otherwise when the disaster struck. Thus, the government is responsible for many of the deaths and much of the property damage that has occurred.
In general, government has caused that harm by socializing the costs of living in high-risk areas; that is, through taxation, the political system has been able to deflect some of the costs from the people choosing to live in risky areas and to spread them across the rest of the population. Since costs affect human action, the apparent lowering of the costs of certain decisions can be expected to encourage people to act in ways they would not have otherwise acted.
The government lowers those costs to the residents in many ways. Its construction of roads, bridges, sewage-treatment plants, etc. — the so-called infrastructure — forces the costs of those amenities onto taxpayers living in other areas. Moreover, if a disaster damages the infrastructure, the federal government will finance at least 75 percent of the repair. Thus, the residents who immediately benefit do not face the full costs.
Of particular relevance is the government’s construction of interstate highways in earthquake regions and levees and other flood-related structures along the Mississippi. If people had to pay for those costly improvements directly, they might instead choose to live in safer places. Before the levees were built, the river flooded regularly. By modifying the river, through the construction of levees and the deepening of the river channel, flooding is much less frequent. Thus, taxpayer-funded construction made the land more desirable and created a large windfall for those who bought property before the improvements. What’s more, the government’s tampering with the river has had the unintended consequence of accelerating the river’s flow and making any floods that do occur much worse than otherwise.
That would be bad enough, but the government intervenes in another way. It promises to insure residents against the damage they cause. Whether it does so by providing disaster relief after the fact or by offering formal insurance is of little import. In either case, the government underprices the risk of living in flood and hurricane areas and thereby encourages people to take risks. As a result, more lives and property are in harm’s way.
In the 20th century, until the 1960s, the federal government made special appropriations whenever a disaster affected a large enough group of people to make disaster relief politically advantageous. But the cost concerned some policymakers, so in the 1960s the National Flood Insurance Program (NFIP) was established as part of the Federal Emergency Management Agency. (Farmers have flood insurance through the Agriculture Department’s Crop Insurance Program. There is no federal earthquake or brushfire insurance program.) The rationale was to have those who lived in risky areas pay insurance premiums from which damage claims would be paid. It did not work out as expected.
The first problem was that the federal government continued to grant relief even to people who had not bought insurance. Today only 13 percent of eligible homeowners and one-third of eligible acres are covered by the government’s policy. Once it became clear that vote-seeking congressmen and presidents would make relief payments even to the uninsured, there was little incentive to buy the insurance. The same is true with other disasters. Although only one in four homeowners in California has earthquake insurance, government assistance, including subsidized loans, is available to all who suffer damage.
But that was not the worst problem. Government provision of insurance is itself a major reason for the growth in property damage from floods and hurricanes. How so? To begin with, from the bureaucrats’ perspective, there would be little point in having a government insurance program charge premiums equal to or more than those set by private insurers (although that is not impossible). After all, defenders of NFIP say that government involvement is necessary because flood risk is uninsurable. That could mean one of two things: either that market-set rates would be prohibitively expensive or that private insurers would not underwrite the risk at any price.
Thus, by the government’s own logic, the premiums must be artificially low. That makes them subsidized. Any economist will affirm that if an activity is subsidized, there will be more of it. The result, then, of government insurance is that more people live in risky areas than would otherwise. More property and life are in harm’s way because of the government’s policy .
Strangely, NFIP administrators deny their insurance policy is subsidized. They insist that the rates are actuarial, meaning that they are based on the real risk. But how can that be? They themselves say the risk is uninsurable. They cannot have it both ways. If the risk is uninsurable, how can they charge actuarial rates? And if they can charge actuarial rates, why can’t private insurers do so? The answer is that NFIP can charge subsidized rates because it has the taxpayers in reserve and private insurers don’t. By the way, Lloyd’s of London does write policies, albeit for a stiff premium, on property values that exceed the NFIP limit.
The program, in fact, is not self-supporting. It has had to borrow money from the U.S. Treasury, and about $1 billion in loans have been forgiven. In the early 1980s, Congress appropriated $1 billion to the program fund, which, before the 1993 floods, was $18 million in deficit.
For many reasons, bureaucrats will not run a government program like a business. First, they have no incentive to do so. Their prestige depends on building up the program and having many policyholders by keeping premiums lower than they ought to be. If they charge too much, private insurers might try to compete, demonstrating that the program is unnecessary.
But even if the incentives were not perverse, the bureaucrats cannot know what they would need to know to make the program actuarially sound. They do not risk their own capital. They do not personally profit from being efficient. They do not face the competitive market process, which reveals information that cannot be learned otherwise. Under those circumstances, as economist Israel M. Kirzner points out, generally, bureaucrats cannot be expected to correctly anticipate the future demand of the market. They are not entrepreneurs making money in the insurance business. They are bureaucrats playing at insurance.
Advocates of government insurance may think they are doing good. But tampering with insurance is one of the most dangerous forms of economic intervention, because insurance plays such a vital role in the marketplace. It not only lets people pool risks and assure that money is available if disaster strikes. It also informs them, through market-generated premiums, of the relative riskiness of activities. Premiums are prices, and prices are information. If the government distorts the information by tampering with prices, people are led to take actions they would not have otherwise taken. The dangers inherent in distorting the price of risk are too obvious to require elaboration. If the premium for insuring an activity is prohibitively expensive, the market is trying to tell people something. Suppression of that information is foolhardy.
The last-ditch defense of government insurance says that the problems cited above can be solved by directing development away from the worst hazards. The NFIP was intended to offer insurance in return for so-called mitigation, i.e., restrictions on where people can build homes. That was supposed to minimize the damage and keep the program self-supporting.
Some critics of NFIP say that mitigation was not pursued vigilantly enough. But there is a more principled criticism. Mitigation is nothing less than federal land-use control, which violates property rights. Indeed, it is a most insidious kind, because it is dressed up as a method to limit the taxpayers’ exposure. The argument goes: if the taxpayers are to be on the hook for flood damage, the government ought to be able to prevent activities that will cost the taxpayers money. There is logic to that argument. And that is why government insurance is so dangerous. It inevitably leads to government control of peaceful activity. (The implications for a government role in medical insurance are obvious.)
If for no other reason, people who value liberty must oppose government property insurance. The alternative is the false sense of security provided by government, combined with burgeoning controls over how we may use our property.
