When broader government assistance is available for earthquake insurance, receipt rates for private earthquake insurance appear to have been suppressed, according to a new study on the difference between earthquake insurance rates in Lower British Columbia and neighboring Washington state in the US.
Additionally, citizens who do not trust government authorities to protect them may be tempted to reduce the risk of damage after an earthquake, making them less likely to purchase earthquake coverage.
Is the answer mandating earthquake insurance coverage?
The possible causes of low takeover rates for earthquake insurance were explored in a recent research paper written by Glenn McGillivray, Managing Director of the Institute for Catastrophic Loss Reduction, and Mary Kelly, Professor of Finance and Head of Insurance at Wilfred Laurier University. Their paper, The Earthquake Insurance Protection Gap: A Tale of Two Countries, was published in the Journal of Insurance Regulation. They wrote the newspaper with Steve Bowen, the head of disastrous insight at Aon.
The paper begins by noting that rates of obtaining earthquake insurance are much higher in the lower mainland of British Columbia than in Washington, in the neighboring state of Washington, although the exposure to earthquake risks in the two areas is largely the same.
More than 60% of homeowners in the Lower Mainland of British Columbia buy earthquake insurance protection for their homes and properties, but less than 14% in Washington state do the same.
The main question is why?
The answer may provide a guide for how to improve seismic insurance acceptance rates.
One of the main differences between the two locations is the wider availability of government disaster aid in Washington than in British Columbia, the paper states. “While there are many aid and grant programs to help uninsured or uninsured people in the United States, the British Columbia government has publicly stated that it will not pay assistance for earthquake damage due to the availability of private insurance,” the authors write. “We believe this and issues centered around national culture are the main reasons for the low acceptance rates for earthquake insurance in Washington.”
Detailed on the cultural side, McGillivray and Kelly write: “Because Americans tend to be individualistic and less likely to trust the information provided by authorities, they are more likely to underestimate potential risks. This has not only resulted in lower acceptance rates for earthquake insurance in western Washington, But also in California, where only 10% of households have adequate coverage. “
What can be done to increase the reception rates and reduce the earthquake insurance protection gap?
The article suggests a number of potential solutions, including mortgage lenders who require (or require governments) to purchase insurance.
Changes in product design can also incentivize more homeowners to purchase earthquake insurance. This might include grouping all potential disasters into a base policy, or changing the typical policy term of one year to a multi-year period. Another possibility is to offer “insurance vouchers” to high-risk and low-income families.
McGillivray told the Canadian Insurance Agency on Wednesday that the multi-year policies will benefit both the insured (who will have protection for the duration of the policy) and the insurer (which will have both the risks and premiums set for a few years). There is a feeling that this will cut costs for the insurance company, which can offer lower premiums. It will also allow the consumer to benefit from stability in terms of insurance costs. “
Kelly added that the multi-year policy is also encouraging investment in mitigation. “When a consumer can see the effect of a five-year reduction in the premium if they dilute, they are more likely to do so.”
Insurance vouchers are designed to help low-income families cope with the high cost of premiums based on risk for perils such as floods and earthquakes. Kelly said Wednesday that it is linked to income levels, while subsidized rates are usually related to risk levels. “One of the ideas here is to help people pay the premiums, not reduce the premiums so it is not risk based,” said McGillivray.
“When I think about it, I think about how subsidized daycare would work in Ontario, and a similar model would (I think) work on coupons,” Kelly said.
McGillivray notes that government-run insurers such as the US National Flood Insurance Program have gotten themselves into trouble in the past by not charging real estate prices against risk. In contrast, insurance companies (and cannot) reduce premiums, otherwise, they will get involved in solvency issues. “The answer could be coupons,” said McGillivray.
He noted that vouchers can lead to less reliance on disaster assistance and faster recovery after a loss accident.
If US state governments require earthquake insurance, will Washington see acceptance rates close to BC rates?
If earthquake insurance was compulsory, reception rates would likely exceed those of BC, McGillivray said.
However, in this scenario, the possibility exists that an unscrupulous homeowner will purchase the insurance, present evidence to the authorities, and then cancel the policy.
“Other than that, asking for earthquake cover could work, although we feel it would be politically unpalatable to many,” said McGillivray.
The authorities will have to ensure that a sufficient number of companies offer coverage. Options may include a passive option, which means that the homeowner automatically gets earthquake coverage unless he pulls out.
It’s also worth noting that when US government mortgage lending companies tried to make earthquake coverage required for California mortgages, the state blocked it, Kelly added. The legislation states that the California Earthquake Commission will stop writing new earthquake insurance policies if any of the government associations (Freddie Mac and Fannie Mae) require this type of insurance. So, I can’t see her pass at all, ”Kelly said.
McGillivray agrees that the issue is a double-edged sword. If earthquake insurance were to be enforced in British Columbia, the protection gap would be reduced (although not removed because earthquake insurance still had substantial discounts; in addition, not all estates would have sufficient damages to initiate the policy). On the other hand, there will be greater earthquake exposure to insurers, who will have to manage their accumulations and purchase adequate cat reinsurance.
“All of this has to be managed carefully, as the industry only has so much capital to pay for the Great West Coast earthquake,” said McGillivray.
Kelly noted that the typical discount is 10% of the property’s value. “In theory, insurers should have enough reinsurance, but I also expect that some of the younger players may drastically limit their exposure in response.”
Feature image via iStock.com/metamorworks
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