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Catastrophe Economics: The National Flood Insurance Program

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  • Erwann O. Michel-Kerjan

Abstract

Hurricane Betsy, which hit Louisiana September 9, 1965, was one of the most intense, deadly, and costly storms ever to make landfall in the United States: it killed 76 people in Louisiana and caused $1.5 billion in damage—equal to nearly $10 billion in 2010 dollars. In 1965, no flood insurance was available, so victims had to rely on friends and family, charities, or federal relief. After that catastrophe, the U.S. government established a new program in 1968—the National Flood Insurance Program (NFIP)—to make flood insurance widely available. Now, after more than 40 years of operation, the NFIP is today one of the longest standing government-run disaster insurance programs in the world. In this paper, I present an overview of the 40 years of operation of the National Flood Insurance Program, starting with how and why it was created and how it has evolved to now cover $1.23 trillion in assets. I analyze the financial balance of the NFIP between 1969 and 2008. Excluding the 2005 hurricane season (which included Hurricane Katrina) as an outlier, policyholders have paid nearly $11 billion more in premiums than they have received in claim reimbursements over that period. However, the program has spent an average of 40 percent of all collected premiums on administrative expenses, more than three quarters of which were paid to private insurance intermediaries who sell and manage flood insurance policies on behalf of the federal government but do not bear any risk. I present challenges the NFIP faces today and propose ways those challenges might be overcome through innovative modifications.

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Bibliographic Info

Article provided by American Economic Association in its journal Journal of Economic Perspectives.

Volume (Year): 24 (2010)
Issue (Month): 4 (Fall)
Pages: 165-86

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Handle: RePEc:aea:jecper:v:24:y:2010:i:4:p:165-86

Note: DOI: 10.1257/jep.24.4.165
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  1. Kenneth A. Froot, 1999. "Introduction to "Financing of Catastrophe Risk, The"," NBER Chapters, in: The Financing of Catastrophe Risk, pages 1-22 National Bureau of Economic Research, Inc.
  2. Carolyn Kousky, 2010. "Learning from Extreme Events: Risk Perceptions after the Flood," Land Economics, University of Wisconsin Press, vol. 86(3).
  3. von Ungern-Sternberg, Thomas, 2004. "Efficient Monopolies: The Limits of Competition in the European Property Insurance Market," OUP Catalogue, Oxford University Press, Oxford University Press, number 9780199268818, October.
  4. Howard C. Kunreuther & Erwann O. Michel-Kerjan, 2009. "At War with the Weather: Managing Large-Scale Risks in a New Era of Catastrophes," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262012820, December.
  5. Kenneth A. Froot, 1999. "The Financing of Catastrophe Risk," NBER Books, National Bureau of Economic Research, Inc, number froo99-1, October.
  6. Browne, Mark J & Hoyt, Robert E, 2000. " The Demand for Flood Insurance: Empirical Evidence," Journal of Risk and Uncertainty, Springer, Springer, vol. 20(3), pages 291-306, May.
  7. Erwann Michel-Kerjan & Carolyn Kousky, 2009. "Come Rain or Shine: Evidence on Flood Insurance Purchases in Florida," Working Papers hal-00372387, HAL.
  8. Warren Kriesel & Craig Landry, 2004. "Participation in the National Flood Insurance Program: An Empirical Analysis for Coastal Properties," Journal of Risk & Insurance, The American Risk and Insurance Association, The American Risk and Insurance Association, vol. 71(3), pages 405-420.
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Cited by:
  1. Erwann Michel-Kerjan & Paul A. Raschky & Howard C. Kunreuther, 2009. "Corporate Demand for Insurance: An Empirical Analysis of the U.S. Market for Catastrophe and Non-Catastrophe Risks," Working Papers 2009-10, Faculty of Economics and Statistics, University of Innsbruck.
  2. Justin Gallagher, 2014. "Learning about an Infrequent Event: Evidence from Flood Insurance Take-Up in the United States," American Economic Journal: Applied Economics, American Economic Association, vol. 6(3), pages 206-33, July.
  3. Laure Cabantous & Denis Hilton & Howard Kunreuther & Erwann Michel-Kerjan, 2011. "Is imprecise knowledge better than conflicting expertise? Evidence from insurers’ decisions in the United States," Journal of Risk and Uncertainty, Springer, Springer, vol. 42(3), pages 211-232, June.
  4. Howard Kunreuther & Erwann Michel-Kerjan & Nicola Ranger, 2013. "Insuring future climate catastrophes," Climatic Change, Springer, Springer, vol. 118(2), pages 339-354, May.
  5. Robert Meyer, 2012. "Failing to learn from experience about catastrophes: The case of hurricane preparedness," Journal of Risk and Uncertainty, Springer, Springer, vol. 45(1), pages 25-50, August.
  6. Botzen, W.J. Wouter & de Boer, Joop & Terpstra, Teun, 2013. "Framing of risk and preferences for annual and multi-year flood insurance," Journal of Economic Psychology, Elsevier, Elsevier, vol. 39(C), pages 357-375.

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