Corey Recvlohe

The Coastal Impact of Tropical Cyclones

From floods to high-speed winds, tropical cyclones have devastating consequences for coastal economic activity. Whether involving flood insurance or housing and infrastructure loss, damage from storm surge and extreme winds affects critical financial choices. This is an examination of the ways in which beach communities deal with the costs posed by powerful storms, and how those weather systems disrupt and damage local economies.

I’ll initially look at the U.S. National Flood Insurance Program and its purpose. Further, I will discuss NFIP’s effectiveness and financial stability, including major concerns with its policies and possible solutions. Next will be an investigation of economic losses due to storms, with predictive models that take into account ongoing climate instability. Other analysis will include the long-range net impact of catastrophic cyclones.

Many of the worlds most productive cities lie near beaches and coasts. If not only for their scenery, these spaces yield prime real estate, trading ports, and large labor pools for national and international companies. The great challenge of the next several decades, and indeed century, is reorienting our affection for coastal development. Increasing sea-level rise, powerful storms, and their subsequent economic repercussions are profound and lasting.

Flood Insurance

NFIP History

Massive flooding in and around the Mississippi Delta from 1927 to 1928 triggered a collapse of available private-market flood insurance. After these events underwriters exited the private market, leaving those living in floodplain zones along rivers and coasts at risk for property loss during hurricanes and major storms. It was not until 1956 under President Eisenhower that Congress passed the Federal Flood Insurance Act, attempting to address flooding damage in the U.S. northeast caused by Hurricanes Connie and Dianne. However, lack of funding and further changes caused the law to lapse in 1957. After Hurricane Betsy in 1965, the U.S. Government decided to study how aid was funded and distributed to victims of storm disasters and resulted in the creation of the National Flood Insurance Program (NFIP).

The purpose of the policy was relatively simple, constrict development in flood-prone areas and cost-share across public and private insurance markets. By subsidizing policies underwritten by the U.S. Treasury and managed by private insurers, floodplain property owners gained access to limited property protection. But to get NFIP legislation passed in Congress, compromises were made that fundamentally doomed implementation of the program. In fact, before the passing of NFIP, authors of the Southeast Hurricane Disaster Relief Act of 1965 stated, “flood insurance program[s are] a tool that should be used expertly or not at all. Correctly applied, it could promote wise use of floodplains. Incorrectly applied, it could exacerbate the whole problem of flood losses”.

Today NFIP covers more than $1.2 trillion in assets, mostly in Florida, Texas, and Louisiana. Annual 2017 numbers estimate the program carries more than $24 billion in debt with roughly $300 million in yearly interest payments. Indeed, over the last 30 years, per policy coverage has nearly doubled from an inflation-adjusted rate of $114k in 1978 to $217k in 2009 dollars, with most policyholders residing in coastal states with extensive floodplain areas.

NFIP: Major Issues

The core concern with NFIP is its financial solvency as it runs enormous deficits, especially after significant storms strike densely populated areas. However, for many decades NFIP took on modest debt and paid manageable claims. Not until the 2000s — with hurricanes Katrina and Rita — did flood damage rack up significant losses. NFIP’s cumulative debt in 2005 was in the tens of millions, by the end of the decade in 2010 the figure remained at a steady $17 billion. Subsidized flood insurance for high-risk homes shows NFIP’s actuarial method to be fundamentally broken, serving more as a nationalized bailout for risky assets.

Repetitive losses appear to be an outstanding factor in the rate of debt as well, with $9 billion in claims paid out by only 1.3 percent of policyholders. Losses from extraordinary, unpredictable events such as Atlantic cyclones are expected; but predictable and repetitive claims show NFIP’s policy design to be highly deficient. How claimants can gain coverage for dwellings exposed to such levels of risk is an ongoing issue.

On the administration side, NFIP’s partnership with private insurers is one of the more opaque aspects of the costs derived from writing, marketing, and evaluating policies. Specifically, the Write Your Own (WYO) program is the primary method used to handle the processes associated with doing all the necessary paperwork and back-office coordination required for administering flood insurance coverage. Although, from a transparency perspective the Federal Emergency Management Agency (FEMA) does not know the proportion of payments and profits inherent to insurance partner financials. Essential to any public-private partnership is a level of accountable trust, and as it stands the program’s failure to know the scope of expensing and profits is a glaring failure.

NFIP’s problems will continue to compound as the years ago on, with sea-level rise and increasingly intense storms hitting the Atlantic and Gulf coasts. The issues mentioned above are some of the core areas where re-regulation can have the highest impact. The following section will include a set of possible program reforms and ways to mitigate the magnitude of losses currently absorbed by the system.

NFIP: Possible Solutions

Without reform, NFIP will remain accumulating large deficits during catastrophic hurricanes. However, there are ways to improve the program and reduce federal expenses along with floodplain development.

One of the critical steps to reducing policy payouts is encouraging private market entrance and allowing premiums to reflect real risk. Efforts such as the Biggert-Waters Act passed in 2012 sought to reform many of the pitfalls inherent to NFIP, but after political fallout, the Grimm-Waters act of 2014 restored many of those provisions keeping premiums low for high-risk property owners. As was said on the floor of Congress by U.S. Senator Chuck Schumer (D) of New York, “[Grimm-Waters means] that the American dream of working hard, buying a home, and having your little piece of rock will not be destroyed by some unknown, misunderstood, and irrational force in Washington on flood insurance”. Indeed, many of the barriers to creating solvency for NFIP reside in the arena of politics rather than finance.

Mapping precision is also a key component in premium pricing accuracy. With more than half of NFIP’s archived map collection over a decade old, overpricing and underpricing of premiums continues to plague public and private estimations of flood risk in floodplain zones. Initiatives have begun and are generally underway to keep floodplain locations exact; however, the process must be modernized to ensure maps will remain up-to-date and free from delays instituted by local governments.

Risk reduction is a central element of any strategy looking to impact the level of damage properties absorb from storm surge flooding. Home fortification along with relocation incentives can alleviate claim costs and ultimately reduce taxpayer burdens. As of 2006 in surveys taken of more than one thousand respondents, only 17% of those living along the Atlantic and Gulf coasts made fortified changes to their homes. Increasing the number of property holders than make useful adjustments to their structures is essential to the health of NFIP over the long-term.

Other possibilities include innovative financial instruments such as “cat bonds” or catastrophe bonds, which are contracts that insurers offer to investors that help cover particular catastrophic events such as hurricanes and typhoons. Cat bonds work by paying interest to investors like any typical bond purchase, but investors lose a portion of the asset if strict parameters are met, such as claims exceeding premiums over a specified period. Tools like catastrophe bonds can give private underwriters more flexibility in covering policyholders, especially for situations that are most likely to wipeout insurers.

Several more solutions have the potential to address NFIP’s core issues, but virtually all proposals rely on political compromises. Coastal beach property is a desired asset, driving rising real estate values. Any set of policies mentioned above, and many more others, require a calibrated but determined approach to excise risk taken on by taxpayers for poor decisions. Structural fortification, incentivized relocation, unsubsidized rate pricing, catastrophic reinsurance, and up-to-date models are just several endeavors that can address future difficulties before they become crises.

Economic Loss

Growth Rates

The influence of storms on local and national economies is a much-discussed topic in the academic literature. With a century of data going back to the early 1900s, researchers have access to a tremendous amount of resources that help identify, locate, and analyze storm results on trade. From historical tables to satellite data and predictive modeling, understanding how tropical cyclones affect economic activity in the near and long-term is a vast topic of study.

The first thing to consider when measuring storm impacts is the level of infrastructural damage, particularly housing, capital stock, and crops. Additionally, production is often interrupted by the lack of imported materials, delivery of finished goods, and general supply chain distribution. Important to also remember, though, is that recovery activity and replacement capital work to counteract some of the losses absorbed by local communities. Net economic decline is a cross-section between capital loss and the transfer of capital resources to local regions.

Another aspect of modeling cyclone damage is the level of destructive power measured through wind speed, total rainfall, and coastal storm surge. Indeed, maximum sustained wind speed, in particular, serves as an accurate proxy for local damage and works well to quantify how hurricanes affect economic growth rates. County-level growth rates tracked against average storm wind speeds show county economic growth rates impacted on an annual basis by 0.45 percentage points; with 28% of negative growth due to wealthy community members emigrating from affected areas. However, at the national-level powerful cyclones tend not to show up in long-term measures of economic volatility, indicating that overall net annual economic loss is negligible.

Light Imagery

One way measuring economic impact from cyclones has improved is with nightlight satellite imagery. Often national, regional, and even insurance loss data cannot fully capture the total economic effects of storm damage. Satellite imagery specifically looks at electrified human settlements and gas flares, which are correlated to GDP per square kilometer. Aggregate numbers necessarily offer a low resolution, compared with light information showing immense detail.

In an analysis of Cuba, the Dominican Republic, and Jamaica, nightlight maps indicate average hurricane strikes representing a 3.7% reduction in annual nighttime light growth, or about a 0.7% reduction in GDP growth over the same period matching findings by Strobl. However, a critical difference between nighttime imagery and county-level numbers is the lack of spatial heterogeneity found in county-level economic loss estimates.

Another compelling use of nightlight data is with an examination of regional impacts of typhoons on the Chinese coastline. Using similar methods on a GDP/square-kilometer basis, outcomes indicate that for typhoons causing an average of 20% destruction result in a mean income loss of near 14% annually; and typhoons that destroy up to 50% of property further reduce local economic activity by 20% annually.

Risk analysis is also a critical component derived from nightlight modeling using deterministic statistical testing. Synthetic tropical storms can be coupled with ocean-atmosphere estimates to generate probable paths for future typhoon events. By incorporating temperature, humidity, wind, and sea surface temperatures, potential paths for future proto-storms can be modeled — smoothing out catastrophic variability that would otherwise skew shorter time-frame estimates. A projected 500 year storm model points to roughly $U.S. 0.54 billion in annual economic losses for coastal China.

This was an analysis of several factors that come into play when considering the economic consequences of powerful tropical cyclones. By looking at the NFIP’s history and structure, along with the financial burden it levees on U.S. taxpayers, what comes into focus is a program that is fragile and weak, and thus unable to competently reduce flood damage costs or coastal floodplain development — and in fact, has done the opposite. By introducing moral hazard and asymmetric incentives, the U.S. Government has encouraged coastal development while incurring massive losses when strong hurricanes impact coastline regions. A lack of reforms, political will, and fiduciary responsibility has created an untenable situation wherein property owners in Utah expense the poor decisions of Florida home developers building condominiums along at-risk beaches.

Concerning economic loss-estimates, the science of nightlight imagery can help policy experts, coastal scientists, and commercial researchers understand the real variability of financial losses along coastal communities. Instead of relying on sometimes lagging data filtered through governmental agencies and politicians, more accurate information can be taken directly from satellite images. Hopefully, as the years go on perhaps better photography and video will offer up-to-the-day or week timeframes for analysis, allowing for review of storm response and recovery efforts.

Economic health is a central concern of modern living. Without jobs, appliances, and telecommunication networks, the world roughly reverts to subsistence living marred by adverse social and political outcomes. By understanding the economic impacts of tropical cyclones in both the Atlantic and Pacific regions, we can develop ways to mitigate losses, strengthen responses, and better prepare for future disasters.