Monday, November 12, 2012

Flood Insurance as Welfare for the Wealthy

Hurricane Sandy, now ranked as the second most costly natural disaster in US history (after Katrina), provided a stark reminder that living along the ocean can be very dangerous. So, why do people build there? Here are what I think are the top three reasons:

1. The ocean is very beautiful, and sea breezes (as least in summer) are delightful.

2. Property values along the ocean front are high.

3. The federal government subsidizes coastal development by providing below-market flood insurance through FEMA's National Flood Insurance Program.

Of those three reasons, the third is far and away the most important. If the federal government did not provide below-cost flood insurance in coastal areas there would be much less building in the coastal zone, property values there would be much lower, and storm surges would cause far less damage.

So, why does the federal government subsidize coastal construction via flood insurance? Because of the political influence of development interests, which demanded the federal government fill the void left by private insurers who refused to provide coverage in flood-prone areas because it made no economic sense to do so. The private insurance industry understood better than members of Congress that it makes no sense to insure construction on shorelines that were under consistently high and measurable risk of inundation and erosion.

FEMA contends that the National Flood Insurance Program was not created to subsidize development of coastal properties but to "control" floodplain development more generally. As evidence, FEMA points to rules that prohibit it from providing flood insuring in certain designated areas. But the incentives created by the National Flood Insurance Program are inconsistent with any expressed desire to curtail coastal development. The fact is that, in the absence of the program, only the most fool-hardy would choose to build in those areas.

As things stand, taxpayers are subsidizing the building and rebuilding of coastal dwellings, and the benefits mainly go to the wealthiest segments of the population. It is a form of welfare for the rich. According to a 2007 CBO report (here), fully 40% of properties protected by national flood insurance had market values in excess of $500.000, and 12% were worth more than $1 million. (According to the CBO report, non-coastal properties protected against floods are worth far less money.) The same segment of the population that benefits from the subsidy of National Flood Insurance (a gift that keep on giving) is most vociferous about the need to reduce the budget deficit by cutting federal aid programs for the least advantaged.

Even before allowing the Bush tax cuts to expire, Congress should stop the subsidies that encourage the wasteful cycle of coastal building, destruction, rebuilding, destruction, and more rebuilding along America's coasts.

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