The Problem of Risk Subsidy

Kerry Emanuel is a leading proponent of the theory that climate change is making tropical cyclones more intense. On July 25th 2006, he and a number of other leading climate physicists and others made a statement that investors need to take note of:

“As the Atlantic hurricane season gets underway, the possible influence of climate change on hurricane activity is receiving renewed attention. While the debate on this issue is of considerable scientific and societal interest and concern, it should in no event detract from the main hurricane problem facing the United States: the ever-growing concentration of population and wealth in vulnerable coastal regions. These demographic trends are setting us up for rapidly increasing human and economic losses from hurricane disasters, especially in this era of heightened activity. Scores of scientists and engineers had warned of the threat to New Orleans long before climate change was seriously considered, and a Katrina-like storm or worse was (and is) inevitable even in a stable climate.

 

“Rapidly escalating hurricane damage in recent decades owes much to government policies that serve to subsidize risk. State regulation of insurance is captive to political pressures that hold down premiums in risky coastal areas at the expense of higher premiums in less risky places. Federal flood insurance programs likewise undercharge property owners in vulnerable areas. Federal disaster policies, while providing obvious humanitarian benefits, also serve to promote risky behavior in the long run.

 

“We are optimistic that continued research will eventually resolve much of the current controversy over the effect of climate change on hurricanes. But the more urgent problem of our lemming-like march to the sea requires immediate and sustained attention. We call upon leaders of government and industry to undertake a comprehensive evaluation of building practices, and insurance, land use, and disaster relief policies that currently serve to promote an ever-increasing vulnerability to hurricanes.”

This states the problem perfectly. Climate change is not the only risk issue posed by extreme weather events. Owners of beach houses, beware.