Path Dependent: Lessons from America’s Ill-Equipped Flood Insurance System

Rebecca Frost, Senior Editor

17 September 2018

Every year, thousands of people find themselves in the path of a hurricane. All kinds of people. People with different incomes, people with different abilities to evacuate, people with different levels of insurance. Regardless of who they are, people’s lives are literally blown apart.

If there is ever a time that society needs its systems to respond quickly and well, it is in the aftermath of these storms. Essential utilities, such as electricity, are often badly damaged, key routes for emergency services are often blocked, emergency rooms can become overwhelmed, people are often evacuated to temporary shelters, and the homes they leave behind are often too damaged to return to immediately. Unfortunately, some of the systemic problems that plague public policy often come into sharp focus as governments scramble to respond to these storms. These problems are bigger than simple inefficiencies, and they too often result in tragedy.

There is a term in public policy called path dependency. The concept has been explained in a variety of ways and applied to a variety of fields, but in public policy contexts, it refers to the tendency of policies to be shaped by institutional structures and previous policy decisions. Unsurprisingly, this can prevent public policy from being as responsive or innovative as it often needs to be to address problems.

The United States’ National Flood Insurance Program (NFIP) is a good example of this. The program is run by the Federal Emergency Management Agency (FEMA) and has been in place since 1968. Its primary role is to provide affordable flood insurance to Americans. Home insurance policies typically don’t come with flood insurance. The program was created in reaction to the fact that, by the 1960s, it was becoming very difficult for private insurers to provide flood insurance at a rate that was affordable for most customers. Although private insurers are beginning to creep back into the flood insurance market, most policies are still purchased through the NIFP.

The program was self-sustaining from the time of its creation through the 1990s, but its budget was devastated first by Hurricane Katrina in 2005 and later by Hurricane Sandy 2012 and it has not been able to recover. As of August 2018, the NFIP’s debt measured $24 billion.

Some analysts point to the fact that cities are increasingly allowing residential neighbourhoods to be built in areas at high risks for flooding, others to the fact that the NIFP is set up in a way that creates incentives for homeowners to stay in risky areas even after their homes flood multiple times, and others point to FEMA’s underestimation of how much of a risk flooding actually poses to the homes they insure. The combination of these factors has contributed to the NFIP’s inability to raise enough revenue to offset the cost of paying out claims.

Attempts by Congress to raise premiums to offset the growing costs of paying claims has been met with push back from those living on floodplains. Congress instead placed limits on how much premiums under the NFIP could be raised; perpetuating the problem. To make matters worse, the number of Americans living on floodplains is increasing and FEMA has been repeatedly criticized for underestimating the risks posed to these houses by flooding; a practice that results in premiums not costing enough to offset the risk posed by those who purchase their insurance policies.

Thus far, the program’s debt has not impacted whether or not claims are paid to NFIP policyholders. What is becoming worrisome is the program’s sustainability. In 2017, the program’s debt crept up to its mandated ceiling of $30 billion. Congress forgave $16 billion of that debt, but, by the time the NFIP was finished paying the $6 billion in claims from Hurricane Harvey, the program’s debt was back up to $20.5 billion by 2018. As mentioned previously, the program’s debt currently stands at approximately $24 billion.

As Hurricane Florence approached the east coast of the United States, questions were raised about how the NFIPs budget would hold up against the slew of new claims it would face in the storm’s aftermath. It is not clear whether Congress will forgive more of the NFIPs debt, and even less clear what will be done as storms like this hit the United States with increasing frequency.

After over a decade of catastrophic storm after catastrophic storm draining its budget and threatening its sustainability, major reforms to the NFIP have not been made. FEMAs approach so far has been to batten down its hatches and hope they will be able to somehow patch whatever holes the storm blows in its budget.

The problems with this program are not superficial. They are built into the system itself. A successful insurance venture needs to bring in more money from premiums than it pays out in claims. It does this by adjusting the premiums people pay and the amount of money they would receive when they make a claim based on the risk of their property flooding. As these storms keep becoming more costly, there may not be a way to balance this formula without either having policies pay out too little to cover the damage done or increasing prices for premiums beyond what people would consider an acceptable level.

The United States Government’s approach to solving this problem has been very constrained by the design of the program; that is to say, it has been very path dependent. They have tried raising premiums and when that has failed, they have propped up the program with debt relief. That isn’t to say that adjustments to the existing program would do no good, but it is becoming increasingly clear this 20th-century model will not do for 21st-century storms.

This is more than just a story about flood insurance in the United States. It's a story about how the path dependency of public policy could cause the systems we have in place to respond to disasters to buckle under the impacts of climate change. Many different types of systems could be vulnerable to this; other large public insurance systems; emergency services; international disaster relief efforts; or any other kind of system designed to spring into action when a storm hits. Limiting attempts to reform these programs to path dependent actions may no longer be good enough. As demonstrated in the case of the the NFIP, sometimes the way these systems will be stretched may render them unsustainable in the 21st century. As increasingly destructive hurricanes continue to chart their paths through the world’s cities, policy makers must consider new paths of their own.

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