On the optimal design of disaster insurance in a federation
Recent experience with disasters and terrorist attacks in the US indicates that state and local governments rely on the federal sector for support after disasters occur. But these same governments are responsible for investing in infrastructure designed to reduce vulnerability to natural and man-made hazards. This division of responsibilities – regional governments providing protection from disasters and federal government providing insurance against their occurrence – leads to the tensions that are at the heart of our analysis. We show that when the federal government is committed to full insurance against disasters, regions will have incentives to under-invest in costly protective measures. We derive the structure of the optimal second-best insurance system when regional governments choose investment levels non-cooperatively and the central government cannot verify regional investment choices. Normally (though not always) this will result in lower intergovernmental transfers and greater investment. However, the second-best transfer scheme suffers from a time-inconsistency problem. Ex-post, the central government will be driven towards equalizing rather than the second-best grants, which results in a type of soft budget constraint problem. Sub-national governments will anticipate this and reduce their investment in protective infrastructure even further. We discuss these results in light of recent disaster policy outcomes in the US.
|Date of creation:||2009|
|Contact details of provider:|| Postal: Carrer del Tinent Coronel Valenzuela 1-11, 08034 Barcelona|
Phone: 93 403 46 46
Fax: 93 403 98 32
Web page: http://www.ieb.ub.edu
More information through EDIRC
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Bayoumi, Tamim & Masson, Paul R, 1994.
"Fiscal Flows in the United States and Canada: Lessons for Monetary Union in Europe,"
CEPR Discussion Papers
1057, C.E.P.R. Discussion Papers.
- Bayoumi, Tamim & Masson, Paul R., 1995. "Fiscal flows in the United States and Canada: Lessons for monetary union in Europe," European Economic Review, Elsevier, vol. 39(2), pages 253-274, February.
- David E. Wildasin, 2008. "Disaster Policies," Public Finance Review, SAGE Publishing, vol. 36(4), pages 497-518, July.
- Neil Bruce & Michael Waldman, 1986.
"The Rotten-Kid Theorem Meets the Samaritan's Dilemma,"
650, Queen's University, Department of Economics.
- Neil Bruce & Michael Waldman, 1990. "The Rotten-Kid Theorem Meets the Samaritan's Dilemma," The Quarterly Journal of Economics, Oxford University Press, vol. 105(1), pages 155-165.
- Neil Bruce & Michael Waldman, 1986. "The Rotten-Kid Theorem Meets the Samaritan's Dilemma," UCLA Economics Working Papers 402, UCLA Department of Economics.
- Becker, Gary S, 1974.
"A Theory of Social Interactions,"
Journal of Political Economy,
University of Chicago Press, vol. 82(6), pages 1063-1093, Nov.-Dec..
- Persson, Torsten & Tabellini, Guido, 1996. "Federal Fiscal Constitutions: Risk Sharing and Moral Hazard," Econometrica, Econometric Society, vol. 64(3), pages 623-646, May.
- Massimo Bordignon & Paolo Manasse & Guido Tabellini, 2001.
"Optimal Regional Redistribution under Asymmetric Information,"
American Economic Review,
American Economic Association, vol. 91(3), pages 709-723, June.
- Bordignon, Massimo & Manasse, Paolo & Tabellini, Guido, 1996. "Optimal Regional Redistribution Under Asymmetric Information," CEPR Discussion Papers 1437, C.E.P.R. Discussion Papers.
- Massimo Bordignon & Paolo Manasse & Guido Tabellini, "undated". "Optimal Regional Redistribution Under Asymmetric Information," Working Papers 93, IGIER (Innocenzo Gasparini Institute for Economic Research), Bocconi University.
- Bergstrom, Theodore C, 1989. "A Fresh Look at the Rotten Kid Theorem--and Other Household Mysteries," Journal of Political Economy, University of Chicago Press, vol. 97(5), pages 1138-1159, October.
- Caplan, Arthur J. & Cornes, Richard C. & Silva, Emilson C. D., 2000. "Pure public goods and income redistribution in a federation with decentralized leadership and imperfect labor mobility," Journal of Public Economics, Elsevier, vol. 77(2), pages 265-284, August.
- Horst Raff & John Wilson, 1997. "Income Redistribution with Well-Informed Local Governments," International Tax and Public Finance, Springer;International Institute of Public Finance, vol. 4(4), pages 407-427, November.
- Nobuo Akai & Emilson Silva, 2009. "Interregional redistribution as a cure to the soft budget syndrome in federations," International Tax and Public Finance, Springer;International Institute of Public Finance, vol. 16(1), pages 43-58, February.
- Martin Besfamille & Ben Lockwood, 2008. "Bailouts In Federations: Is A Hard Budget Constraint Always Best?," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 49(2), pages 577-593, 05.
- David Wildasin, 2007. "Disaster Policy in the US Federation: Intergovernmental Incentives and Institutional Reform," Working Papers 2007-01, University of Kentucky, Institute for Federalism and Intergovernmental Relations.
- Lockwood, Ben, 1997.
9703, Exeter University, Department of Economics.
- Melitz, Jacques & Zumer, Frederic, 2002. "Regional redistribution and stabilization by the center in Canada, France, the UK and the US:: A reassessment and new tests," Journal of Public Economics, Elsevier, vol. 86(2), pages 263-286, November.
- Thomas A. Garrett & Russell S. Sobel, 2002.
"The political economy of FEMA disaster payments,"
2002-012, Federal Reserve Bank of St. Louis.
- Cornes, Richard C. & Silva, Emilson C. D., 2000. "Local Public Goods, Risk Sharing, and Private Information in Federal Systems," Journal of Urban Economics, Elsevier, vol. 47(1), pages 39-60, January.
- Gilberto Turati & Luigi Buzzacchi, 2009. "Optimal risk allocation in the provision of local public services: can a private insurer be better than a public mutual fund?," Working Papers 2009/21, Institut d'Economia de Barcelona (IEB).
- Timothy Goodspeed, 2002. "Bailouts in a Federation," International Tax and Public Finance, Springer;International Institute of Public Finance, vol. 9(4), pages 409-421, August.
When requesting a correction, please mention this item's handle: RePEc:ieb:wpaper:2009/10/doc2009-25. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: ()
If references are entirely missing, you can add them using this form.