Congress is facing renewed calls to privatize the heavily indebted National Flood Insurance Program as lawmakers work to cut the federal budget. Getting the federal government out of the flood insurance business would strengthen the program going forward, supporters of the idea have argued.
But industry observers said supporters of a private flood insurance market have provided few details about how the NFIP's structural problems would be addressed, including how it sets rates. Until those questions are answered, property/casualty insurers see little benefit to taking on the risks associated with flood insurance, said Jimi Grande, senior vice president of federal and political affairs for the National Association of Mutual Insurance Companies.
"NAMIC is always open to developments and innovations that could reduce the role of the federal government in insuring against flood," Grande said in an email. "However, any effort to create a private market must begin with a move to adequate, risk-based rates."
As it stands now, the NFIP operates under the Federal Emergency Management Agency as a Write Your Own Program, which allows participating property/casualty insurance companies to write and service flood policies in their own names. The companies receive an expense allowance for policies written and claims processed while the federal government retains responsibility for underwriting losses. Currently, 85 companies are involved in the WYO Program, according to FEMA's website.
The idea of taking the NFIP private has garnered increased attention since Hurricane Sandy slammed into the Northeast United States in October.
Prior to Sandy, the NFIP was carrying roughly $18 billion in debt, a level that lawmakers and industry experts already considered to be unsustainable. Flooding caused by Sandy is expected to add between $12 billion and $15 billion to the NFIP's existing debt, according to a recent report by the Congressional Research Service.
In January, Congress was forced to raise the NFIP's borrowing authority by $9.7 billion to ensure claims stemming from Sandy would continue to be paid.
Retired U.S. Army Corps. of Engineers Gen. Gerald Galloway said many of the NFIP's debt problems were by caused its inability to charge rates based on actuarial assessments of potential risks. Because flood insurance is mandatory in areas that face a high risk of flooding, the NFIP often sets rates at a level that doesn't take specific risks into account but that is affordable to low-income consumers.
By setting prices to ensure low-income homeowners can afford flood insurance, the NFIP has created a situation where private insurers moving into the flood insurance market would have to raise rates dramatically to account for risks, he said.
"Unless lawmakers craft a bill that allows insurers to charge actuarially sound rates that account for the unique risks of flood damage, insurers will never be a willing buyer wanting to take on the business of flood insurance," said Galloway, who is now a professor of engineering at the University of Maryland.
However, Galloway said the fault lies with Congress.
"Congress comes in and tells the NFIP that it cannot charge appropriate rates or that certain areas can't be considered high-risk flood plains for political or developmental reasons. And then they blast the program for its financial problems."
The NFIP also plays a key role in mapping flood plains. Galloway said if the federal government pulled out of the flood insurance market, individual insurers or groups of insurers would have to define the location of flood plains.
Michael Quigley, senior vice president and property underwriting manager for Munich Re, said another issue Congress would have to consider is how to curtail the adverse selection that exists in the flood insurance market today. The potential for adverse selection has been a sticking point in past attempts to privatize the NFIP, Quigley said, "given those most exposed to the risk of flooding would purchase coverage while those less exposed would choose not to purchase coverage."
Since Sandy, privatizing the NFIP has increasingly been viewed as a way to cut government spending.
The budget battles between Republicans and Democrats on Capitol Hill have made the NFIP, a government program carrying a multibillion-dollar debt load, a prime target for congressional budget hawks. House Financial Services Committee Chairman Rep. Jeb Hensarling, R-Texas, said in January he intends to make the passage of NFIP privatization legislation a top priority for the committee. Industry representatives have not issued public responses to those calls, saying they wanted to see what privatization legislation looked like before commenting .
"There is bipartisan concern in Congress about the cost to taxpayers posed by the NFIP," said Frank Nutter, president of the Reinsurance Association of America. Nutter said RAA's members support privatizing the flood insurance market as a way for reinsurers to diversify their geographic and product risks.
Quigley said the recent law extending the NFIP through 2017 included measures that could move the property/casualty insurance industry closer to accepting a larger role in the flood insurance market.
Quigley cited several provisions in the Biggert-Waters Flood Insurance Reform Act of 2012 that could make flood insurance more attractive to primary insurers. That act included a focus on improved flood mapping, the elimination of premium subsidies for specific properties, the gradual phase-in of risk-based rates over a five-year period and the increase in the annual cap on rate increases from 10% to 20%.
"These are all steps in the right direction from a private-market perspective," Quigley said.
Reinsurers are not in the same position as primary insurers when it comes to flood insurance, said Matt Mosher, A.M. Best Co.'s senior vice president of global ratings.
Reinsurers don't have to file for rate approval, so they could charge actuarially sound rates. Primary insurers, however, are typically required to have their rates approved by state regulators. Mosher said that could create problems for private insurers.
"Without the ability for a private primary insurer to charge actuarially sound rates, this creates a situation where primary insurers have to pay actuarially sound rates to their reinsurers," Mosher said. "But at the same time, they can't charge their consumers rates that appropriately price for risk due to rate regulation."