RAA Guiding Principles— Natural Disaster Risk Financing
At its meeting on November 14, 2007, the RAA Board of Directors approved Guiding Principles for Natural Disaster Risk Financing. Those principles are:
1. Natural Catastrophe Risk Is Insurable In The Free Market
Public policy makers should make it their top priority to remove regulatory constraints from the private insurance market’s ability to willingly insure risk. By removing regulatory constraints policymakers will maximize private sector risk bearing. Regulatory constraints in many states now include: price controls, coverage mandates, and involuntary residual market facilities and associated assessments.
2. Loss Mitigation Enhances Insurance Capacity
Public policymakers should take every reasonable action to encourage loss mitigation strategies including enactment of strong building codes, active enforcement of those building codes and land use planning. This will benefit consumers by protecting against loss of life and reducing property losses. Hazard mitigation will expand the capacity of the private sector to manage natural disaster risk.
3. Where Government Determines That Subsidization of Insurance Costs Is Necessary, Such Subsidization Should Be Borne Through Government Programs Not Through The Insurance Mechanism
Free market principles include basing insurance costs on the underlying risk insured. Consumers that live in high-risk environments may not be able to afford insurance coverage.
• Government policymakers should establish objective standards for determining the “affordability” of necessary insurance coverage.
• Where subsidization of necessary insurance costs is determined to be in the public interest, government subsidization should operate outside the framework of the private insurance mechanism.
• Efforts to compel insurance companies to provide subsidies will run afoul of free market principles and will constrain rather than augment private sector risk bearing.
4. Primary Insurance Funds And Residual Markets Should Be Designed To Maximize The Use Of Private Markets
Once free market principles are applied, policy makers will learn what business will not be insured in the private voluntary market. Broad application of free market principles should eliminate the need for residual markets, except in very extraordinary circumstances.
• Market assistance plans should be utilized to find available markets and government vehicles should only be employed when there is no private market available and then only at a price that exceeds the highest rate filed in the authorized market. Declinations from authorized insurers should be required before a government vehicle can be utilized.
• Where government insurance mechanisms are required, they should be designed to promote or encourage the development and growth of a private market. Such residual markets should be designed as primary insurance funds. Their risk should be managed as insurance companies’ risks are managed: underwriting standards need to be applied, risk based pricing needs to be utilized and catastrophe risk analysis should be performed. Capital resources should be appropriate to the aggregate risk insured and private reinsurance and other risk transfer mechanisms should be fully utilized to support the risk insured.
5. Governmental Reinsurance Fund Not Needed
If policymakers follow competitive, free market principles, a governmental natural disaster reinsurance fund is not necessary. If these principles are not followed, then pressure will inevitably build for state and federal assumption of natural disaster risk in a way that will impose regulatory constraints on the use of private capital. Such a policy will be self-defeating over time leading to the need for even greater governmental involvement.
