A B+ for Loren Steffy

Loren Steffy, a blogger for the Houston Chronicle has an interesting entry today.  You can read it here.  

He gets a B+.  He’s right on the following points:

1.  The Texas Windstorm Insurance Association should be warning policyholders that they may be subject to assessment in the event of a significant storm and that TWIA may not be able to pay claims fully in the event of a major hurricane.  That way policyholders would be able to make better choices about (a) whether to invest in coastal property in Texas and (b) about whether to go with TWIA or to purchase, where available, an often-more-expensive-but-possibly-more-secure policy from a private insurer.

2. “In other words, the state is authorizing an insurance scam. If a private insurer lacked the capital to pay future claims, they wouldn’t be allowed to sell insurance in Texas.”  That’s pretty strong language but the underlying point has force: the state would NEVER let an insurer with as minimal capitalization as TWIA continue in business.  Of course, private insurers lack the assessment capabilities that TWIA possesses both on its own policyholders and on people purchasing non-TWIA policies and Texas insurers, which is why (a) TWIA is not quite as bad as it might seem but (b) why TWIA policies are unquestionably subsidized at present by the rest of the state.

3. “The windstorm pool has the authority to sell bonds to shore up its finances and cover as much as $3.5 billion in claims, but it’s not clear that it could actually sell the bonds given its sorry finances.”  Thank you.  This is quite true and far too little commented upon.  Already, there is doubt that TWIA could actually sell more than $500 million of the $1 billion in Class 1 securities it is authorized to sell. Indeed, a modest degree of legislative panic on this point let to an amendment to Texas law last session that permits TWIA to sell Class 2 and 3 securities without having exhausted the limit of its Class 1 borrowing authority. Without that, TWIA would have gone bankrupt even under fairly modest storms.  The important point is that TWIA depends on post-assessment bonds to pay policyholders and it may have to pay a hefty interest rate in order to get those bonds to sell.  Those interest rates will get passed on in part to TWIA policyholders, in part to non-TWIA policyholders and in part to Texas insurers and, derivatively, their insureds.

4. “In the Panhandle, policy holders don’t want to pay higher premiums because people choose to live on the coast in Hurricane Alley. Then again, we don’t like to pay to cover their hailstorms, either. But spreading that risk around means we would all pay less than we are likely to as taxpayers if we have to bail out TWIA.”  The first two sentences are of course right but then, Mr. Steffy gets it somewhat wrong.  There may be something in theory to pooling wind risk in different parts of the state together as a vehicle for diversifying risk.  But, as has been discussed here before, wind/hail/tornado risk in the rest of the Texas, although significant both in absolute relative terms, is just not the same as hurricane risk on the coast.

5. The value of non-coastal property in Texas far outweighs the value of coastal property.  Thus, even if absolute expected losses were the same, the relative risks are not.  Expected annual coastal property losses from wind divided by the value of coastal property is a considerably higher number than annual non-coastal property losses from wind divided by the value of non-coastal property.  Moreover,hurricane  risks on the coast are far more correlated than tornado/hail risk in the interior. Thus, under traditional concepts of actuarial fairness the two groups should not pay the same rates.  Forcing them to do so distorts economic choice.  Moreover, there is, after all, some matter of choice in location decisions within Texan.

6. So next time someone says, but we’re all Texans in this together, ask them whether they want to be charged the same rate for auto insurance as fellow Texans who happen to be 19 years old with a history of auto accidents.  Or ask them whether they want to be charged the same rate for life insurance as a fellow Texan who is 80 year old, has cancer and who, after all, shares with all Texans the risk of death. Togetherness may mean we share risk, but it doesn’t mean we should all pay the same.

Footnote: I’m a tough but fair grader.  Ask my students.


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