MSG Team's other articles

9821 Importance of Communication in Change Management

For implementing a change program successfully, communication is the key and one of the most complex parameters as it involves an exchange of ideas and feelings with people in an organization through various mediums. It is one of the toughest issues which an organization is faced with during the entire process of implementation of change. […]

11194 Satellite Communication System

Imagine what would our life be without any mode of communication among individuals? The world would have been a dead place where no body could interact with each other or communicate amongst themselves. There would be no knowledge sharing and great ideas could never be implemented. In a layman’s language, communication simply helps in the […]

11745 Using Internal Loss Data to Mitigate Operational Risks

The modern approaches to risk management are data-driven. There are four basic steps to this approach which we will study later in this module. The first step contains information about how data related to internal losses suffered by an organization needs to be collected and studied in order to better mitigate risks in the future. […]

10191 Leadership-Member Exchange (LMX) Theory

Informal observation of leadership behavior suggests that leader’s action is not the same towards all subordinates. The importance of potential differences in this respect is brought into sharp focus by Graen’s leader-member exchange model, also known as the vertical dyad linkage theory. The theory views leadership as consisting of a number of dyadic relationships linking […]

11660 Types of Crisis

Crisis refers to sudden unplanned events which cause major disturbances in the organization and trigger a feeling of fear and threat amongst the employees. Following are the types of crisis: Natural Crisis Disturbances in the environment and nature lead to natural crisis. Such events are generally beyond the control of human beings. Tornadoes, Earthquakes, Hurricanes, […]

Search with tags

  • No tags available.

In the United States, the government of the United States is the biggest player in the flood insurance industry. This has been the case ever since the National Flood Insurance Program (NFIP) was created in 1968.

Prior to 1968, many private insurance companies refused to provide private insurance to homeowners who had houses in flood-prone areas. This is the reason why the government decided to form the NFIP via an act of Congress. This body was created in order to provide insurance to owners at subsidized rates.

However, based on the performance date of over five decades, it can be concluded that the NFIP is just as inefficient as any other government organization.

This inefficiency can be gauged based on many facts, some of which have been listed below:

  1. The NFIP is a government body. Hence, it is not subject to any state regulations. On the other hand, private insurers are subject to state regulations. State regulations have evolved in order to keep up with the drastic changes in the marketplace. However, the NFIP still plays by the old rules which makes it an inefficient organization

  2. Almost all private insurance companies buy reinsurance cover. This is because they are aware that there may be many situations wherein they will not be able to pay out all the claims. In the absence of recourse to reinsurance, private companies will go bankrupt at the occurrence of such a catastrophic event.

    Since the NFIP is a government body, it does not feel the need to buy any reinsurance product. The reality is that NFIP is not immune to losses. In fact, it is more prone to losses than the average insurance company. However, NFIP simply relies on the fact that it has taxpayer backing. This complacency is obviously making it a grossly inefficient organization

  3. The NFIP is providing insurance to houses that they really should not be covering. Almost 25% of the claims paid by NFIP have been given to repetitive loss properties. These are houses that are known to be extremely risky and are routinely damaged in the event of a flood.

    Up until now, the NFIP has paid a total of $12 billion as damages for these properties. Any private insurance company would not continue to provide coverage to these properties. However, since taxpayer money is being spent, the NFIP is not really concerned and continues to provide coverage.

  4. The NFIP is not really an insurance company. This is because an insurance company is meant to charge premiums based on the risk profile of the property. However, the NFIP provides insurance to just about everybody.

    In fact, people owning the riskiest homes get the most subsidized policies. This means that the NFIP creates a situation wherein the government knowingly takes on catastrophic risks without any kind of reinsurance!

  5. Lastly, it is a known fact that the insurance industry is highly regulated. Throughout the world, governments lay down regulations which dictate how insurance companies can invest their money. The NFIP is exempt from all these regulations. This means that the NFIP does not even have to adhere to the most basic solvency measures.

All the above points clearly outline how a government supported monopoly has made the flood insurance market utterly disorganized. The NFIP does not seem like an insurance program at all. Instead, it seems like a program designed to give government-sponsored handouts to homeowners who take unnecessary risks.

Current Role of the Private Sector

The reality is that the private sector is active in the market despite the government monopoly. Private insurance companies still provide ancillary services and sell add-on products.

  • For instance, private insurance companies do not sell primary flood insurance as of now. However, they are authorized to sell top-up insurance. This means that customers can claim on these policies only after they have already claimed on the government issued policy and still haven’t been able to make good their losses.

  • Also, NFIP does not really have a distribution channel of its own. At the present moment, most of the policies being sold by NFIP are being sold by private insurance companies. Private insurance companies are only the distributors. The underwriting is done by the NFIP. The NFIP pays private companies a fee for using their distribution networks.

Future Role of the Private Sector

Various models are being explored to make the private sector more active in the flood insurance market. Increasing the participation of the private sector seems to be the only way to bring more efficiency into the markets.

The private sector already has a lot of data on the flood insurance patterns in the United States because of the current role that they play in the issuing and servicing of flood policies. This data will help them make effective underwriting decisions.

In the options that have been explored till now, private insurance companies seem to be keen in providing insurance to the low risk as well as moderate risk areas. However, they are completely averse to providing insurance in the high-risk areas.

The government has to be careful in order to ensure that the private sector is not allowed to take all the rewards without bearing the risks. This will make an already bad situation even worse.

Article Written by

MSG Team

An insightful writer passionate about sharing expertise, trends, and tips, dedicated to inspiring and informing readers through engaging and thoughtful content.

Leave a reply

Your email address will not be published. Required fields are marked *

Related Articles

The COSO Framework for Internal Control

MSG Team

The Cost Structure in the Insurance Industry

MSG Team

Credit Derivatives: An Introduction

MSG Team