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GAO-10-568R: 

United States Government Accountability Office: 
Washington, DC 20548: 

May 17, 2010: 

The Honorable Spencer Bachus:
Ranking Member:
Committee on Financial Services:
House of Representatives: 

Subject: Natural Catastrophe Insurance Coverage Remains a Challenge 
for State Programs: 

Dear Mr. Bachus: 

Natural catastrophes can adversely affect U.S. residents and 
businesses by causing extensive property damage. The 2005 hurricanes 
and other recent natural disasters have had significant effects on the 
cost of obtaining insurance against such risks, especially in high-
risk areas. As private market insurers have raised their premium 
rates, an increased number of residents have obtained coverage through 
state-sponsored natural catastrophe programs. Questions have been 
raised concerning whether some of these programs will be able to pay 
losses in the event of a major catastrophe. Several legislative 
proposals have been made that would create a federal role in 
supporting these state programs. 

In a previous report for you, GAO identified public policy goals for 
government involvement in natural catastrophe insurance and applied 
those goals to potential changes in the federal government's role. 
[Footnote 1] Those goals were developed based on insights from past 
GAO work, a review of legislative histories, and interviews with 
public and private sector experts, and included (1) charging premium 
rates that reflect the risk of loss, (2) encouraging broad 
participation, (3) encouraging the private market to provide natural 
catastrophe insurance, and (4) limiting costs to U.S. taxpayers. In 
other work, we have discussed the importance of mitigation efforts in 
reducing the damage and losses that could result from a natural 
catastrophe.[Footnote 2] The information that follows updates our past 
work by evaluating the extent to which these public policy goals, as 
well as the goal of increased mitigation, are supported by selected 
state natural catastrophe insurance programs, selected legislative 
proposals for increasing the federal role in natural catastrophe 
insurance, and selected natural catastrophe insurance programs in 
other countries. 

To assist Congress as it considers legislative proposals that would 
increase the federal role in natural catastrophe insurance coverage, 
you asked us to provide a briefing on (1) the current status of key 
state natural catastrophe insurance programs, and the extent to which 
the state programs support public policy goals identified in prior GAO 
reports; (2) the extent to which proposed changes to federal 
involvement in natural catastrophe insurance support policy goals 
identified in prior GAO reports; and (3) how natural catastrophe 
insurance is provided in selected other countries. We provided a 
briefing for the minority staff on April 16, 2010, on the results of 
our review and the briefing slides are reproduced in the enclosure to 
this letter. In response to questions asked during the briefing, we 
have added clarifying information to the briefing slides. 

We conducted our work from August 2009 through May 2010 in accordance 
with all sections of GAO's Quality Assurance Framework that are 
relevant to our objectives. The framework requires that we plan and 
perform the engagement to obtain sufficient and appropriate evidence 
to meet our stated objectives and to discuss any limitations in our 
work. We believe that the information and data obtained, and the 
analysis conducted, provide a reasonable basis for any findings and 
conclusions. 

Background: 

State natural catastrophe insurance programs generally provide 
coverage against damage from natural disasters to property owners in 
high-risk areas or to those who are unable to obtain such coverage in 
the private market. Private sector insurers, and many state insurance 
entities, seek to limit exposure to large losses by transferring a 
portion of this risk to reinsurers and, less often, to the capital 
markets through insurance-linked securities (ILS) such as catastrophe 
bonds.[Footnote 3] However, some state entities do not use such means 
to protect against catastrophic losses, but instead use post-event 
funding mechanisms, including assessments on primary insurers, 
proceeds from general revenue, and bonds. Some states have commented 
that participation in the reinsurance markets is expensive and results 
in high premium rates for policyholders, who may therefore decide not 
to purchase coverage, and that they would prefer to use the post-
funding mechanisms described above. Reliance on post-event funding, by 
concentrating risk within the state instead of the broader private 
market, can put state finances at risk in the event of a major natural 
catastrophe. Several legislative proposals before Congress are 
intended to either facilitate the transfer of risk from state programs 
to the broader reinsurance and capital markets or to shift a portion 
of natural catastrophe risk from the states to the federal government. 

Summary: 

We reviewed state natural catastrophe insurance programs in Alabama, 
California, Florida, Louisiana, Mississippi, North Carolina, New 
Jersey, South Carolina, and Texas. We found that most of the state 
programs in our review had grown since 2005. In particular, the 
insurance programs in Mississippi, Texas, and Florida experienced the 
most growth in total exposure to loss since 2005, with increases of 
495 percent, 147 percent, and 146 percent, respectively. Also, the 
combined total exposure of over $2 trillion in the Florida insurance 
and reinsurance programs far exceeded that of all other programs 
combined. With respect to the public policy goals for government 
involvement in natural catastrophe insurance, we found that support 
varied across the state programs. Six of the 10 programs charged rates 
that did not fully reflect the risk of loss, potentially discouraging 
private market involvement and mitigation efforts by property owners. 
However, charging rates that do not fully reflect the risk of loss can 
also potentially increase broad-based participation in state programs. 
Officials from 7 of the 10 programs said that they took steps to 
encourage private market participation, and officials from 9 programs 
told us that they are implementing or considering ways to encourage 
mitigation, including providing mitigation credits or attempting to 
develop a more effective mitigation plan. Officials from most of the 
programs said they encourage broad participation in their programs; 
however, a few said they specifically discourage it and instead try to 
encourage homeowners to purchase insurance from the private market. 
For example, the programs in Louisiana, Mississippi, and New Jersey 
discourage participation because they consider themselves insurers of 
last resort. Of these three, Louisiana and New Jersey said they charge 
premium rates that they deem to be at or above what private market 
rates would be for comparable coverage, which could further discourage 
public participation in those state programs. 

We identified four proposals contained in proposed legislation that 
would increase the federal role in natural catastrophe insurance and 
could affect the reinsurance industry's participation in natural 
catastrophe insurance markets: facilitation of risk transfer, 
guarantees of state pre-and post-event bonds, a federal lending 
facility for qualified state natural catastrophe insurance programs, 
and a federal reinsurance program.[Footnote 4] We found that these 
proposals involve trade-offs that would have to be balanced. For 
example, while these proposals could lower premium rates for and 
increase public participation in state natural catastrophe programs, 
they could discourage private market participation and mitigation 
efforts and increase taxpayer exposure to potential costs. In 
particular, a federal guarantee of state bonds could give state 
programs access to capital at reduced or below-market costs, allowing 
state programs to continue to charge premium rates that do not fully 
reflect risks or even to lower their premium rates. Furthermore, it 
could result in decreased reinsurance purchases by some state programs 
and increased reliance on post-event funding, which could increase 
taxpayers' exposure to the potential costs in the event of state 
financial difficulties. In addition, a federal reinsurance program 
could reduce costs for state programs, but unless the federal program 
charged premiums that fully reflect the risk of loss, it could 
inadvertently encourage further development and population growth in 
areas with high natural catastrophe risk. However, if steps were taken 
to address certain limitations in the various proposals, the effects 
of the proposals might be different. For example, while some proposals 
could have the effect of discouraging private market participation, 
additional steps could be taken to encourage participation. 

We reviewed natural catastrophe insurance programs in several 
countries that face similar hazards (Australia, Canada, France, 
Germany, Japan, New Zealand, and Switzerland), and none of them had 
made any significant changes since we reviewed them in 2008.[Footnote 
5] We found that while these countries face similar natural 
catastrophe risks as the United States, the extent of natural 
catastrophe risk differs and the government structure and cultures 
also differs leading each country to create unique methods of insuring 
risks that do not appear directly transferable to the United States. 
For example, though other countries also face the risk of hurricanes 
and earthquakes, reinsurers we spoke to said that hurricanes and 
earthquakes in the United States present the largest exposure to 
catastrophic losses in the world, and the magnitude of this risk 
presents unique challenges in insuring these risks. One approach used 
by several countries that has been offered in the United States is the 
federal government acting as a reinsurer for natural catastrophe risk, 
as discussed earlier. This option would involve balancing advantages, 
such as increasing insurers' willingness to write coverage for natural 
catastrophe losses and limiting the need for some types of post-event 
government payouts, against disadvantages, such as displacement of 
private reinsurers and reduced market discipline. 

Scope and Methodology: 

To determine the current status of key state natural catastrophe 
insurance programs, and the extent to which the state programs support 
public policy goals identified by GAO in prior reports, we reviewed 
and contacted officials from the state-run programs in Alabama, 
California, Florida, Louisiana, Mississippi, North Carolina, New 
Jersey, South Carolina, and Texas and compared these programs to our 
public policy goals. We did not verify information provided by the 
programs. To determine how proposed changes to federal involvement in 
natural catastrophe insurance compare to policy goals identified in 
prior GAO reports, we analyzed several options for federal 
involvement: facilitation of risk transfer, guarantees of state pre-
and post-event bonds, a federal lending facility for qualified state 
natural catastrophe insurance programs, and a federal reinsurance 
program. We selected these options because they would increase the 
federal role in natural catastrophe insurance and could affect the 
reinsurance industry's participation in natural catastrophe insurance 
markets. As part of this work, we interviewed industry participants, 
including officials from the programs listed above and insurance and 
reinsurance industry groups. To determine how natural catastrophe 
insurance is provided in selected other countries, building on past 
work, we obtained publicly available information on the current status 
of natural catastrophe insurance in Australia, Canada, France, 
Germany, Japan, New Zealand, and Switzerland--as well as any key 
changes to these programs--and spoke to officials from several of 
these countries. To the extent possible, we also identified any 
practices that may be applicable to natural catastrophe programs in 
the United States based on type of catastrophe risk, government 
structure, and culture. 

Agency Comments: 

We provided a draft of this letter and the attached briefing to the 
Department of the Treasury for their review. Treasury officials 
provided technical comments, which we incorporated into the briefing 
as appropriate. 

As agreed with your office, unless you publicly announce the contents 
of this report earlier, we plan no further distribution of this report 
until 30 days from the report date. 

At that time, we will provide copies to interested congressional 
committees, the Secretary of the Treasury, and other interested 
parties. In addition, the report will be available at no charge on our 
Web site at [hyperlink, http://www.gao.gov]. If you or your staff has 
any questions about this report, please contact me at (202) 512-8678, 
or williamso@gao.gov. Contact points for our Offices of Congressional 
Relations and Public Affairs may be found on the last page of this 
report. Key contributors to this report were Patrick Ward, Assistant 
Director; Grace Haskins, Philip Curtin, Carrie Watkins, Abbie David, 
Joseph Applebaum, Charles Bausell, Jay Smale, Jennifer Schwartz, and 
Marc Molino. 

Sincerely yours, 

Signed by: 

Orice Williams Brown: 
Director, Financial Markets and Community Investment: 

Enclosure: 

[End of section] 

Enclosure: 

Natural Catastrophe Insurance Coverage Remains a Challenge for State 
Programs: 

House Committee on Financial Services: 
Minority Staff: 
April 16, 2010: 

Overview: 
* Introduction: 
* Objectives: 
* Summary of Findings: 
* Scope and Methodology: 
* Background: 
* Discussion of Findings: 

Introduction: 

Natural catastrophes can adversely affect U.S. residents and 
businesses by causing extensive property damage. The 2005 hurricanes 
and other recent natural disasters have had significant effects on the 
cost of obtaining insurance against such risks, especially in high-
risk areas. As private market insurers have raised their premium 
rates, an increased number of residents have obtained coverage through 
state-sponsored programs. Concern exists that some of these programs 
may be unable to pay losses in the event of a major catastrophe. 
Several legislative proposals have been made that would create a 
federal role in supporting these state programs. 

In a previous report, GAO identified public policy goals for 
government involvement in natural catastrophe insurance (based on 
insights from past GAO work, review of legislative histories, and 
interviews with public and private sector experts) and applied those 
goals to potential changes in the federal government's role.[Footnote 
6] Those goals included (1) charging premium rates that reflect the 
risk of loss, (2) encouraging broad participation, (3) encouraging the 
private market to provide natural catastrophe insurance, and (4) 
limiting costs for U.S. taxpayers. In other work, we have discussed 
the importance of mitigation effort to reducing the damage and losses 
that could result from a natural catastrophe.[Footnote 7] 

As requested, we are, among other things, evaluating the extent to 
which these public policy goals, as well as the goal of increased 
mitigation, are supported by: 

* state natural catastrophe programs in Alabama, California, Florida, 
Louisiana, Mississippi, North Carolina, New Jersey, South Carolina, 
and Texas; 

* proposals for changing the federal role in natural catastrophe 
insurance similar to those in House and Senate versions of the 
Homeowners' Defense Act of 2009; and; 

* selected natural catastrophe programs in other countries. 

[End of section] 

Review Objectives: 

Specifically, the Ranking Member of the House Committee on Financial 
Services requested that we answer the following questions: 

(1) What is the current status of key state natural catastrophe 
insurance programs, and to what extent do the state programs support 
public policy goals identified in prior GAO reports? 

(2) To what extent do proposed changes to federal involvement in 
natural catastrophe insurance support policy goals identified in prior 
GAO reports? 

(3) How is natural catastrophe insurance provided in selected other 
countries? 

[End of section] 

Summary of Findings: 

We found that most state programs in our review had grown since 2005, 
and that most programs charged rates that do not reflect the full risk 
of loss, potentially discouraging private market involvement and 
efforts to mitigate damages from natural catastrophes, but that most 
of the states we reviewed were taking steps to encourage such 
mitigation. We also found that adherence to public policy goals varied 
across state programs. The public policy goals are (1) charging 
premium rates that reflect the risk of loss, (2) encouraging broad 
participation, (3) encouraging the private market to provide natural 
catastrophe insurance, and (4) encouraging mitigation. 

We identified four proposals contained in past proposed legislation 
that would increase the federal role in natural catastrophe insurance 
and could affect the reinsurance industry's participation in natural 
catastrophe insurance markets: facilitation of risk transfer, 
guarantees of state pre- and post-event bonds, a federal lending 
facility for qualified state natural catastrophe insurance programs, 
and a federal reinsurance program.[Footnote 8] However, we found that 
the proposals would involve trade-offs that would have to be balanced. 
For example, while these proposals could lower premium rates for and 
increase public participation in state natural catastrophe programs, 
they could discourage private market participation and mitigation 
efforts and increase taxpayer exposure to potential costs. 

We found that while some of the selected countries face similar 
natural catastrophic risks as the United States, the extent of natural 
catastrophe risk differs, leading each country to create unique 
methods of insuring risks. 

[End of section] 

Scope & Methodology: 
	
To determine the current status of key state natural catastrophe 
programs, and the extent to which the state programs support public 
policy goals identified by-GAO in prior reports, we reviewed and 
contacted officials from the state-run programs in Alabama, 
California, Florida, Louisiana, Mississippi, North Carolina, New 
Jersey, South Carolina, and Texas and compared them to our public 
policy goals. We did not independently verify information provided by 
the program officials. 

To determine how proposed changes to federal involvement in natural 
catastrophe insurance compare to policy goals identified in prior GAO 
reports, we analyzed several options for federal involvement: 
facilitation of risk transfer, guarantees of state pre- and post-event 
bonds, a federal lending facility for qualified state natural 
catastrophe insurance programs, and a federal reinsurance program. We 
selected these options because they would increase the federal role in 
natural catastrophe insurance and could affect the reinsurance 
industry's participation in natural catastrophe insurance markets. As 
part of this work, we interviewed industry participants including 
officials from the programs listed above and insurance and reinsurance 
industry groups. 

To determine how natural catastrophe insurance is provided in selected 
other countries, building on past work, we obtained publicly available 
information on the current state of natural catastrophe insurance in 
Australia, Canada, France, Germany, Japan, New Zealand, and 
Switzerland—as well as any key changes to these programs—and spoke to 
officials from several of these countries. To the extent possible, we 
also identified any practices that may be applicable to natural 
catastrophe programs in the United States based on type of catastrophe 
risk, government structure, and culture. 

[End of section] 

Background: 

Natural catastrophes such as hurricanes and earthquakes can adversely 
affect U.S. residents and businesses by causing extensive property 
damage. 

The increased frequency and severity of major natural disasters in 
recent years has had significant effects on the cost of obtaining 
insurance against such risks, especially in high-risk areas. 

As private sector insurers have raised their premium rates, many 
residents have chosen to obtain coverage through state-sponsored 
programs. 

Some state-sponsored programs do not use reinsurance or capital 
markets to protect against catastrophic losses because they are 
structured to post-fund losses, with the result being that many of 
these programs are at financial risk. 

Several bills have been proposed that would create a federal role in 
supporting these state programs. 

Background: Description of State Programs Reviewed: 

* Alabama Insurance Underwriting Association (AIUA) - Formed in the 
early 1970s to provide insurance for homeowners located in coastal 
areas who are unable to obtain coverage in the private insurance 
market. 

* California Earthquake Authority (CEA) - Established in 1996 as a 
publicly managed, largely privately funded entity. Companies that sell 
residential property insurance in California must either offer their 
own earthquake insurance product or, for a fee, become a participating 
insurance company of CEA. 

* Florida Hurricane Catastrophe Fund (Florida Cat Fund) - Created in 
November 1993 after Hurricane Andrew, the purpose of the Florida Cat 
Fund is to protect and advance the state's interest in maintaining 
insurance capacity in Florida by providing reinsurance to insurers for 
a portion of their catastrophic hurricane losses. 

* Florida Citizens Property Insurance Corporation (Florida Citizens) - 
Established in 2002 as a not-for-profit, tax-exempt government 
corporation to provide state-backed insurance coverage, including wind 
damage coverage for homeowners who cannot get coverage in the private 
market. 

* Louisiana Citizens Property Insurance Corporation (LCPIC) — Designed 
to be the insurer of last resort and required by the state to charge 
rates higher than those of private market insurance companies. 

* Mississippi Windstorm Underwriting Association (MWUA) - Created in 
1987, to provide windstorm and hail insurance to coastal area 
homeowners and businesses that are unable to obtain wind and hail 
coverage from private insurance carriers. 

* New Jersey Insurance Underwriting Association (NJIUA) - Created in 
1968 to provide property insurance to any person unable to obtain 
insurance in the private market. 

* North Carolina Insurance Underwriting Association (NCIUA) - Created 
in 1998 to provide 18 coastal counties with windstorm and hail 
insurance for principle residences. 

* South Carolina Wind and Hail Underwriting Association (SCWHUA) - 
Provides coverage for wind and hail damage in the coastal area of the 
state designated as "Beach." 

* Texas Windstorm Insurance Association (TWIA) - Created in 1971 as a 
pool of all property and casualty insurance companies authorized to 
write coverage in Texas. TWIA provides basic wind and hail insurance 
coverage for Gulf Coast property owners who might otherwise be left 
uninsured. 

[Ed of section] 

Objective 1: Most State Natural Catastrophe Insurance Programs 
Continue to Grow, and Rely on Post-Disaster Funding: 

We found that most state programs in our review had grown since 2005, 
and that most programs charged rates that do not fully reflect risk of 
loss, potentially discouraging private market involvement and 
mitigation, but that most states we reviewed were taking steps to 
encourage mitigation. 

Some States Had Recent Changes to Legislation Affecting State Natural 
Catastrophe Insurance Programs: 

Recent State Legislative Changes: 

Florida Citizens (2009): 

* Increased rates up to 10 percent per year until rates are judged 
actuarially sound. 

* Increased rates over 5-year period in line with increased Florida 
Hurricane Catastrophe Fund reinsurance rates. 

* Required to report to the legislature by 12/1/10 on efforts to 
reduce its wind-only coverage exposure in designated high-risk areas 
by 25 percent from its February 2001 level, and if that level is not 
attained must limit future eligibility for wind-only coverage to 
achieve that benchmark. 

North Carolina Coastal Property Insurance (2009): 

* Reduced coverage limits to $750,000. 

* Required program to retain surplus from year to year. 

* Capped assessments on insurers following an event at $1 billion. 

* Ordered North Carolina Rate Bureau to create a voluntary beach and 
coastal mitigation program. 

Texas Windstorm Insurance Association (2009): 

* Ordered Texas Department of Insurance to develop an incentive plan 
to encourage insurers to write insurance on a voluntary basis and 
minimize reliance on TWIA. 

* Authorized issuance of bonds to pay losses in excess of program 
reserves and available amounts in the catastrophe reserve trust fund. 

* Under certain circumstances, eliminated prior approval requirement 
for rate changes. 

* Authorized use of surplus to fund catastrophe reserve trust fund 
and/or procure reinsurance. 

* Required homeowners to produce evidence of flood coverage if 
structure constructed, altered, or remodeled after 9/1/09. 

Coverage Limits between 2005 and 2009: 

Coverage limits increased in three states: 

* Louisiana Citizen's limit increased from $500,000 to $750,000 from 
2005 to 2009. 

* Texas Windstorm Insurance Association's limit increased from $1.5 
million to $1.7 million from 2005 to 2009. 

* Florida Cat Fund's limit increased from $15 billion to $19 billion 
from 2005 to 2009 (reinsurance). 

Coverage limits decreased in one state: 

* North Carolina Insurance Underwriting Association's limit decreased 
from $1,000,000 to $750,000 from 2005 to 2009. 

Total Exposure for Several State Insurance Programs Increased from 
2005 to 2009: 

Although the Florida Hurricane Catastrophe Fund and Florida Citizens 
reported the largest total exposure to insurance claims in the event 
of a catastrophe, Mississippi, Texas and Florida Citizens showed the 
largest percentage increase in exposure from 2005 to 2009 with 
increases of 495 percent, 147 percent, and 146 percent, respectively. 

Figure 1: Total Exposure in Selected State Natural Catastrophe 
Insurance Programs, 2005 to 2009: 

[Refer to PDF for image: illustrated horizontal bar graph] 

California Earthquake Authority (Dec. 2009): 
Total exposure, 2005 program: $240.0 billion; 
Total exposure, 2009 program: $281.0 billion; 
Differences: +$41 billion; 
Percentage change: +17%. 

Florida Citizens Property Insurance Corporation (Dec. 2009): 
Total exposure, 2005 program: $165 billion; 
Total exposure, 2009 program: $406 billion; 
Differences: +$241 billion; 
Percentage change: +146%. 

Texas Windstorm Insurance Association (Dec. 2009): 
Total exposure, 2005 program: $27.5 billion; 
Total exposure, 2009 program: $68.0 billion; 
Differences: +$40.5 billion; 
Percentage change: +147%. 

Louisiana Citizens Property Insurance Corporation (July 2009): 
Total exposure, 2005 program: $14.9 billion; 
Total exposure, 2009 program: $28.5 billion; 
Differences: +$1.6 billion; 
Percentage change: +$91. 

Mississippi Windstorm Underwriting Association (July 2009): 
Total exposure, 2005 program: $1.9 billion; 
Total exposure, 2009 program: $11.3 billion; 
Differences: +$9.4 billion; 
Percentage change: +495%. 

Florida Hurricane Catastrophe Fund[A] (June 2009): 
Total exposure, 2005 program: $1,508 billion; 
Total exposure, 2009 program: $2,162 billion; 
Differences: +$654 billion; 
Percentage change: +43%. 

Source: GAO analysis. 

[A] Florida — CAT fund is a reinsurance fund. 

[End of figure] 

Gross Written Premiums Varied across States: 
	
In 2009, gross written premiums among state programs ranged from a 
high of almost $2.2 billion for Florida Citizens to a low of $10 
million in New Jersey. Florida Cat Fund and California Earthquake 
Authority held the second and third highest gross written premiums 
with $1.5 billion and $546 million, respectively. 

Figure 2: Gross Written Premiums for Selected State Natural 
Catastrophe Insurance Programs, as of 2009: 

[Refer to PDF for image: illustrated horizontal bar graph] 
	
Florida Citizens Property Insurance Corporation (Dec. 2009): 	
Gross premiums written: $2,181 million. 

Florida Hurricane Catastrophe Fund (June 2009); 
Gross premiums written: $1,500 million. 
			
California Earthquake Authority	(Dec. 2009): 
Gross premiums written: $585 million. 

Texas Windstorm Insurance Association (Dec. 2009): 
Gross premiums written: $380 million. 

North Carolina Insurance Underwriting Association (Sept. 2009): 
Gross premiums written: $298 million. 

Louisiana Citizens Property Insurance Corporation (July 2009): 
Gross premiums written: $230 million. 

South Carolina Wind and Hail Underwriting Association (Oct. 2009): 
Gross premiums written: $100 million. 

Mississippi Windstorm Underwriting Association (July 2009): 
Gross premiums written: $80 million. 

Alabama Insurance Underwriting Association (Oct. 2009): 
Gross premiums written: $30 million. 

New Jersey Insurance Underwriting Association (Dec. 2009): 
Gross premiums written: $10 million. 

Source: GAO analysis. 

[A] Florida CAT Fund is a reinsurance fund. Therefore, premiums 
collected may not be directly comparable. 

[End of figure] 

The Number of Policyholders Grew in Several States between 2005 and 
2009: 

Florida Citizens reported the largest number of policyholders, but 
Mississippi and Texas experienced the largest increase, with 169 
percent and 91 percent respectively from 2005 to 2009. 

Figure 3: Total Policyholder Growth in Selected State Natural 
Catastrophe Insurance Programs, 2005 to 2009: 

[Refer to PDF for image: illustrated horizontal bar graph] 

Florida Citizens Property Insurance Corporation (Dec. 2009): 
Number of policyholders, 2005 program: 810,017; 	
Number of policyholders, 2009 program: 1,029,214; 
Differences: +219,197; 
Percentage change: +27.1%. 

California Earthquake Authority (Dec. 2009): 
Number of policyholders, 2005 program: 751,767; 
Number of policyholders, 2009 program: 800,930; 
Differences: +49,163; 
Percentage change: +7%. 
					
Texas Windstorm Insurance Association (Dec. 2009): 
Number of policyholders, 2005 program: 118,413; 
Number of policyholders, 2009 program: 225,641; 
Differences: +107,228; 
Percentage change: +91%. 

Louisiana Citizens Property Insurance Corporation (July 2009): 
Number of policyholders, 2005 program: 134,169; 
Number of policyholders, 2009 program: 132,000; 
Differences: -2,169; 
Percentage change: -2%. 

Mississippi Windstorm Underwriting Association (July 2009): 
Number of policyholders, 2005 program: 15,252; 
Number of policyholders, 2009 program: 41,073; 
Differences: +25,821; 
Percentage change: +169%. 

Florida Hurricane Catastrophe Fund[A] (June 2009): 
Number of policyholders, 2005 program: 205; 
Number of policyholders, 2009 program: 184; 
Differences: -21; 
Percentage change: -1%. 

Source: GAO analysis. 

[A] Florida CAT Fund is a reinsurance fund. Therefore, the number of 
policy holders reflects insurance companies that reinsure through the 
fund. 

[End of figure] 

State Programs' Support of Public Policy Goals for Government 
Involvement in Catastrophe Insurance Varied: 

Public policy goals are (1) charging premium rates that fully reflect 
the risk of loss, (2) encouraging broad participation, (3) encouraging 
private market to provide natural catastrophe insurance, and (4) 
encouraging mitigation. 

Support of public policy goals varied across state programs. 

Most of the state programs encourage broad public participation. 
However, some states would prefer that homeowners purchase insurance 
from the private market and view state programs as insurers of last 
resort. For example, Louisiana, Mississippi, and New Jersey discourage 
participation because they intend to be insurers of last resort. 
According to Louisiana and New Jersey, they charge premium rates 
higher than those of private market insurers for those who can obtain 
private sector coverage. 

Six of the 10 states charged rates that do not fully reflect risk of 
loss, potentially discouraging private market involvement. 

Seven of the 10 state program officials we interviewed said that they 
take steps to encourage private market participation. 

Nine of the 10 state programs officials told us that they are 
addressing or considering mitigation, including providing mitigation 
credits or attempting to develop a more effective mitigation plan. 

Alabama Insurance Underwriting Association Charge Rates That Fully 
Reflect the Risk of Loss: 

* AIUA uses actuarial methods to develop a rate that generates 
premiums sufficient for AIUA to purchase reinsurance to cover the 
probable maximum loss from a 1 in 100 year event. 

* According to AIUA officials, program rates tend to be lower than 
private market rates because the program has no cost of capital for 
retained risk. 

Encourage Broad Public Participation: 

* Participation in AIUI is not specifically encouraged. However, to 
the extent that premium rates are lower than rates charged by the 
private market, the program could encourage broader public 
participation. 

Encourage Private Market Participation: 

* To the extent that premium rates charged by the program are lower 
than private market rates, it could discourage private market 
participation because property owners will likely purchase the lower-
priced product. 

Encourage Mitigation: 

* The rating plan includes credits for mitigation characteristics. 
However, to the extent premium rates are lower than private market 
rates, it could encourage property owners to forego or reduce 
mitigation efforts that could lower their premium rates. 

California Earthquake Authority: 

Charge Rates That Fully Reflect the Risk of Loss: 

* Rates reflect the risk of loss. Premiums vary among 19 rating 
territories, based on type of building, its age, type of construction, 
its value, and the number of stories. According to CEA officials, 
rates are approximately equal to average private market rates for 
earthquake coverage. 

Encourage Broad Public Participation: 

* Broad participation in CEA is encouraged. Officials noted that after 
the Northridge earthquake there was an increased number of policies-in-
force, which led to a price increase then a decrease in the number of 
policies-in-force. To date, the U.S. Geological Survey (USGS) and 
others have financed studies in an attempt to develop individual 
awareness of earthquakes. 

* CEA participated in a "Great California Shakeout" drill, an annual 
event to promote earthquake insurance and help promote public 
awareness of earthquakes. 

* Effect of efforts to encourage participation could be reduced by 
charging premium rates equal to those charged by the private market, 
as the program does not provide a cost advantage over the private 
market. 

Encourage Private Market Participation: 

* Officials told us that insurers still participate in providing 
earthquake insurance by paying a fee to participate in CEA. While CEA 
does not take specific actions to encourage the private market to 
write earthquake coverage, to the extent that it charges premium rates 
equal to those charged by private market insurers, it could encourage 
their participation. 

Encourage Mitigation: 

* CEA has as one of its statutory mandates, and has adopted as a key 
mission, the responsibility to operate a mitigation program. 

* At present, CEA is limited to offering a 5 percent discount on 
premiums for those homeowners who perform certain retrofit steps, as 
laid out in California law, such as bolting the house frame to the 
foundation or strapping the water heater to the house frame. CEA has 
begun a process of determining a sound basis for changing the level of 
premium discounts according to various steps taken to mitigate or 
retrofit. 

* To the extent the program charges premium rates equal to those 
charged by private market insurers, it could encourage property owners 
to undertake mitigation efforts. 

The Florida Hurricane Catastrophe Fund (Reinsurance): 

Charge Rates That Fully Reflect the Risk of Loss: 

* The Florida Cat Fund is required by law to charge "actuarially-
indicated" premiums, but it is not required to charge a market rate. 
According to Florida Cat Fund officials, premium reinsurance rates are 
approximately one fourth to one third the cost of private reinsurance, 
due in part to its tax-exempt status, low administrative costs, and 
lack of a profit or risk load. 

* Another reason that Florida Cat Fund premiums are low is that a 
significant part of the coverage provided by it may be paid by long-
term debt issued by the Florida Cat Fund after a large hurricane event 
occurs. 

* Legislation passed in 2009 authorizes the Florida Cat Fund to 
implement a "cash build up" factor that would increase premiums by 5 
percent annually over a five-year period. 

Encourage Broad Public Participation: 

* To the extent that the Florida Cat Fund's lower reinsurance rates 
enable primary insurers or Florida Citizens to write more wind 
coverage at lower prices, the program could encourage broader public 
participation. 

Encourage Private Market Participation: 

* The Florida Cat Fund is intended to provide additional capacity to 
the Florida insurance market and encourage participating insurers to 
write more wind coverage policies. All insurers writing an insurance 
policy that provides wind or hurricane coverage on residential 
property in Florida are required to contract with the Cat Fund, thus 
displacing the private reinsurance market to some extent. 

* In 2007, the Florida Cat Fund was authorized to offer additional 
optional coverage in order to provide insurers with reinsurance at a 
cost below that in the private market. This had the effect of 
displacing private market reinsurance coverage. The program is now 
being phased out and rates are being increased so that primary 
insurers will shift coverage back to private reinsurers. 

Encourage Mitigation: 

* The Florida Cat Fund provides $10 million per year for mitigation 
initiatives. However, Cat Fund officials noted that because it charges 
below market rates, it can encourage insurance companies to take on 
more risk. For example, if insurers pass along the savings from 
reinsurance rates in risk-prone areas homeowners may not be paying 
premiums that fully reflect the risk of loss and may be more likely to 
forego mitigation efforts. 

Florida Citizens Property Insurance: 

Charge Rates That Fully Reflect the Risk of Loss: 

* Florida Citizens started phasing in rates that more fully reflect 
the risk of loss on January 1, 2010. Rates will increase at no more 
than 10 percent for any single policy in any year, excluding coverage 
changes and surcharges. Florida Citizens desires a 45 percent final 
rate increase; therefore, it could take 4 to 5 years to reach 
acceptable rates. Rates had been legislatively frozen at 2006 levels 
since January 1, 2007. 

Encourage Broad Public Participation: 

* Florida Citizens does not have a marketing program and does not 
solicit people to purchase their insurance. However, to the extent 
that premium rates are lower than private market rates, broader public 
participation could be encouraged. 

Encourage Private Market Participation: 

* Florida Citizens has developed statutory guidance for removing risks 
from their program and placing those risks into the private market. In 
2008, more than 385,000 Florida Citizens' policies were placed with 14 
private market insurers, who voluntarily agreed to assume these 
policies and provide insurance coverage to the public. However, some 
industry participants expressed concern over the viability of some of 
these insurers because they felt the insurers did not have adequate 
capital. 

* To the extent the program charges premium rates that do not fully 
reflect the risk of loss, and are therefore below those the private 
market would charge, it could discourage private market participation. 

Encourage Mitigation: 

* Florida Citizens encourages its policyholders to mitigate their 
homes to improve their ability to withstand catastrophic damage by 
providing outreach, education, and mitigation credits.[Footnote 9] 

* Currently, policyholders who mitigate their homes against 
catastrophic loss are eligible for significant reductions in premiums. 
Florida Citizens provides $740 million annually in mitigation credits 
to more than 450,000 policyholders ($1,644 on average). 

* A February 2010 report by the Florida Commission on Hurricane Loss 
concluded that the current system for assessing, determining, and 
applying windstorm mitigation discounts has failed to operate as 
intended and has added to complaints from residential property 
insurers that they cannot charge high enough rates to operate 
profitably. 

* To the extent premium rates are lower than private market rates, the 
program could encourage property owners to forego or reduce mitigation 
efforts. 

Louisiana Citizens Property Insurance Corporation: 

Charge Rates That Fully Reflect the Risk of Loss: 

* LCPIC is required to charge rates that are 10 percent higher than 
the highest private insurance market rate or 10 percent higher than 
the actuarially sound rate, which ever of the two is greatest, in each 
rating territory. 

Encourage Broad Public Participation: 

* According to LCPIC, it is an insurer of last resort; therefore, it 
does not take steps to encourage the public to purchase its insurance 
coverage. 

* To the extent the program charges premium rates higher than private 
market insurers, it could further discourage broad public 
participation in the program. 

Encourage Private Market Participation: 

* LCPIC encourages homeowners to seek insurance policies through the 
private market by charging higher-than-market rates. 

* Through an incentive grant program, LCPIC has provided $2 million to 
$10 million in surplus to private insurers that agreed to assume 
policies from LCPIC. The total number of policies decreased from 
170,000 to 132,000. The total exposure decreased by over $9 billion 
and annualized premiums decreased by $75 million. 

Encourage Mitigation: 

* LCPIC started offering premium credits for specific mitigation 
efforts in 2009. 

* To the extent the program charges premium rates higher than the 
private market, it could encourage property owners to undertake 
mitigation efforts. 

Mississippi Windstorm Underwriting Association: 

Charge Rates That Fully Reflect the Risk of Loss: 

* MWUA does not charge rates that fully reflect risk the risk of loss 
but instead it uses government subsidies to reduce the rates it 
charges. As a result, premium rates are below those of the private 
market. 

* In 2009 the program requested a 300 percent dwelling-rate increase 
from the state legislature, but received $50 million from the 
government to help maintain rates charged to policyholders. The net 
result was a 90 percent premium rate increase. 

* MWUA also requested a 268 percent premium increase for commercial 
lines, but received a $30 million subsidy. The net result was a 142 
percent premium rate increase for policyholders. 

Encourage Broad Public Participation: 

* MWUA's current participation rate is approximately 60 percent in 
areas where MWUA coverage is available, but the program does not 
specifically encourage public participation. 

* To the extent premium rates do not fully reflect the risk of loss, 
and are therefore lower than rates the private market would charge, 
the program could encourage broader public participation. 

Encourage Private Market Participation: 

* MWUA encourages homeowners to purchase insurance from the private 
market. However, to the extent that MWUA's premium rates do not fully 
reflect the risk of loss, and are therefore lower than what the 
private market would charge, the program could discourage private 
market participation. 

* Private companies may receive a recoupement fee for assuming MWUA 
policies. 

Encourage Mitigation: 

* Beginning in September 2009, MWUA has been promoting mitigation on 
its Web site. 

* MWUA promotes a "fortified" home program, which is an essential part 
of their mitigation strategy. 

* MWUA also gives significant credits to policyholders who choose to 
mitigate through new construction projects or retrofitting their 
homes. The mitigation credit program has been available for 6 months. 
To date, MWUA has endorsed more than 2,000 policies for building code 
credits. New construction projects and retrofitted homes may receive 
up to a 30 percent premium reduction. 

* To the extent that premium rates are lower than private market 
rates, the program could encourage property owners to forego or reduce 
mitigation efforts. 

New Jersey Insurance Underwriting Association: 

Charge Rates that Fully Reflect the Risk of Loss: 

* Through regulation of rates, the New Jersey Department of Insurance 
assures that premiums fully reflect the risk of loss. According to 
officials, the program's premium rates are higher than those of 
private market insurers. 

Encourage Broad Public Participation: 

* According to officials, the program is intended to be an insurer of 
last report, therefore public participation in the program is 
discouraged. 

* To the extent that the program charges rates that are higher than 
private market insurers, it could further discourage broad public 
participation in the program. 

Encourage Private Market Participation: 

* The program is intended to be an insurer of last resort, therefore 
private market participation is encouraged. 

* To the extent that the program charges rates that are higher than 
private market insurers, it could further encourage private market 
participation. 

Encourage Mitigation: 

* Through ongoing discussions with insurers, as well as with 
prospective new market entrants, the Department of Insurance also 
encourages companies to establish acceptance criteria (i.e. criteria 
used for the decision to accept or reject a potential customer or 
renew or non-renew an existing customer) that reward mitigation 
efforts by property owners. For example, it encourages companies to 
provide rate reductions for roof bracing and storm shutters. 

* The state program also offers lower deductibles for certain 
mitigation efforts. 

* To the extent that the program charges rates that are higher than 
private market insurers, it could further encourage property owners to 
undertake mitigation efforts. 

North Carolina Insurance Underwriting Association: 

Charge Rates That Fully Reflect the Risk of Loss: 

* NCIUA must use rates or loss costs developed by the North Carolina 
Rate Bureau (NCRB) for personal lines and Insurance Service Office for 
Commercial Lines. 

* Independent studies have found that when the costs of reinsurance 
are included and expected catastrophe loss potential is modeled, the 
current personal and commercial wind rates do not fully reflect the 
risk of loss and are therefore lower than private market rates. 

Encourage Broad Public Participation: 

* The program does not specifically encourage public participation in 
the program. However, to the extent that premium rates are lower than 
rates the private market would charge, the program could encourage 
broader public participation. 

Encourage Private Market Participation: 

* To the extent that the program charges premium rates that do not 
fully reflect the risk of loss, and are therefore lower than what the 
private market would charge, it could discourage private market 
participation. 

Encourage Mitigation: 

* Pending legislation would require NCIUA to develop mitigation credits.
* The North Carolina Rate Bureau has been looking at mitigation 
credits for a number of years but has been unable to implement them. 

* To the extent that premium rates are lower than private market 
rates, the program could encourage property owners to forego or reduce 
mitigation efforts. 

South Carolina Wind and Hail Underwriting Association: 

Charge Rates That Fully Reflect the Risk of Loss: 

* Premium rates do not fully reflect the risk of loss and are 
therefore lower than private market rates. 

* Program officials said that the program has come close to breaking 
even each year. 

Encourage Broad Public Participation: 

* The program does not specifically encourage broad public 
participation. However, to the extent that premium rates are lower 
than rates the private market would charge, the program could 
encourage broader public participation. 

Encourage Private Market Participation: 

* The program does not specifically encourage private market 
participation. However, to the extent that premium rates are lower 
than rates the private market would charge, the program could 
discourage private market participation. 

Encourage Mitigation: 

* The program offers mitigation credits, and the state is funding some 
other efforts designed to help with mitigation efforts. 

* To the extent that premium rates are lower than private market 
rates, the program could encourage property owners to forego or reduce 
mitigation efforts. 

Texas Windstorm Insurance Association: 

Charge Rates That Fully Reflect the Risk of Loss: 

* Program officials said that premium rates do not fully reflect the 
risk of loss and would likely need to increase by 20 to 35 percent in 
order to do so. As a result, premium rates are lower than private 
market rates. 

* Legislative changes in 2009 have adjusted the methodology used to 
set TWIA premium rates. The changes: 
- authorize TWIA to use catastrophe models in determining rates,
- allow insurers to implement annual premium rate increases of 5 
percent or less without prior approval of the Insurance Commissioner,
- limit rate increases to no more than 10 percent per year unless the 
new rate is the result of catastrophic losses, and; 

- allow rating territories to be adopted. 

Encourage Broad Public Participation: 

* The program does not specifically encourage broad public 
participation. However, to the extent that premium rates are lower 
than rates the private market would charge, the program could 
encourage broader public participation. 

Encourage Private Market Participation: 

* The 2009 legislation included changes to TWIA's post-funding 
structure, in part to encourage the private market to provide natural 
catastrophe insurance. 

* Under the former structure, private insurers potentially faced 
unlimited liability for assessments for TWIA losses with limited 
ability to recoup the assessments from policyholders. 

* The new structure caps losses at $2.5 billion, which equals the 
amount of TWIA losses following the 2008 hurricane season. 

* How TWIA losses would be funded if a storm caused more than $2.5 
billion in losses for TWIA is not clear. 

* To the extent that premium rates do not fully reflect the risk of 
loss, and are therefore lower than rates the private market would 
charge, the program could discourage private market participation. 

Encourage Mitigation: 

* TWIA offers premium discounts to policyholders who mitigate against 
wind losses. 

* To the extent that premium rates are lower than private market 
rates, the program could encourage property owners to forego or reduce 
mitigation efforts. 

[End of Objective 1] 

Objective 2 Summary: Selected Proposals for Increased Federal Role in 
Natural Catastrophe Insurance Have Advantages and Disadvantages: 

We identified four proposals, contained in past legislation, that 
would increase the federal role in natural catastrophe insurance and 
could affect the reinsurance industry's participation in natural 
catastrophe insurance markets. 

* Proposal 1: Facilitation of risk transfer; 

* Proposal 2: Guarantees of state pre- and post-event bonds; 

* Proposal 3: Federal lending facility for qualified state natural 
catastrophe insurance programs; 

* Proposal 4: Federal Reinsurance Program. 

We found that the proposals involve trade-offs that would have to be 
balanced. For example, while these proposals could lower premium rates 
for and increase public participation in state natural catastrophe 
programs, they could discourage private participation and mitigation 
efforts and expose taxpayers to the potential cost of a state failure 
to repay its debt. 

If steps were taken to address certain limitations, then the effect of 
the proposals might be different. For example, while some proposals 
could have the effect of discouraging private market participation, it 
is possible additional steps could be taken to encourage participation. 

Background: 

The selected proposals address the transfer of risk between primary 
insurers that have a direct relationship with consumers and the 
broader reinsurance and capital markets and are intended to address 
the following challenges: 

* Statutory accounting rules require primary insurers to establish 
reserves for incurred or known claims, for the cost of "incurred but 
not reported" claims, for certain other liabilities, and to retain a 
positive net worth to remain a going concern. 

* For primary insurers and state insurance entities to collect 
premiums sufficient to pay potentially catastrophic losses, they would 
need to charge premium rates on properties in high-risk areas that 
consumers may be unwilling to pay. 

* Primary insurers, and many state insurance entities, seek to limit 
exposure to large losses by transferring risk to reinsurers and, less 
often, to the capital markets, through insurance-linked securities 
(ILS) such as catastrophe bonds. 

* Some state entities do not use reinsurance or capital markets to 
protect against catastrophic losses because they are structured to 
post-fund losses using several mechanisms, including assessments on 
primary insurers, proceeds from general revenue, and bonds. 

* The catastrophe risk can remain concentrated in the state, thereby 
putting state finances at risk in the event of a major natural 
catastrophe. 

* The legislative proposals before Congress generally shift natural 
catastrophe risk from the states to the federal government to varying 
degrees. 

Proposal 1: Establish a Federal Facility to Facilitate Risk Transfer 
(overview): 
	
A federal risk transfer facilitation program is intended to facilitate 
the transfer of catastrophic property risks from state reinsurance 
entities to the capital markets. 

The program would facilitate pooling of state risk and provide 
information to capital market participants about state risk for the 
purpose of entering reinsurance and insurance-linked securities (ILS) 
contracts.[Footnote 10] One version of this process would include the 
following steps: 

* Homeowners purchase coverage from primary insurer or state residual 
market entity. 

* Primary insurer or state entity lays off all or a portion of the 
catastrophe risk to a state reinsurance program. Only Florida 
currently has such a program. 

* State reinsurance programs would use the federal facilitation 
program to help coordinate contracts with global reinsurance market or 
capital market investors for ILS. 

* Reinsurers and investors enter contracts with state reinsurance 
programs to sell reinsurance or purchase ILS. 

Proposal 1: Establish a Federal Facility to Facilitate Risk Transfer 
(structure): 

Figure 4: Traditional, Catastrophe Bond, and Proposed Transaction 
Types: 

[Refer to PDF for image: illustration] 

Traditional reinsurance transaction: 

Homeowners: 
Insurance coverage: pay insurance premiums to and collect loss 
payments from: 

Primary insurer and state residual fund: 
Reinsurance coverage: pay insurance premiums to and collect loss 
payments from: 

Reinsurer #1: 
Retrocessional coverage: pay insurance premiums to and collect loss 
payments from: 

Reinsurer #2. 

Catastrophe bond transaction: 

Homeowners: 
Insurance coverage: pay insurance premiums to and collect loss 
payments from: 

Sponsor (primary insurer, reinsures, or state residual market): pay 
insurance premiums to and receive reinsurance coverage from: 

Special purpose reinsurance vehicle: 
* Principal and interest paid to and principal received from Investor; 
* Principal and interest income paid to and principal received from 
Trust. 

A version of Proposed Federal Facilitation Program transaction: 

Homeowners: 
Insurance coverage: pay insurance premiums to and collect loss 
payments from: 

Primary insurer and state residual fund: 
premiums paid to and loss payments collected from: 

State reinsurance program: 
State risk data sent to: 

Federal facilitation program: 
* shares state risk data with capital markets; 
* insurance lined securities to Investors; 
* reinsurance contracts to Reinsurers. 

State reinsurance program: 
* pay insurance premiums to and collect loss payments from: Reinsurers; 
* pay principal and interest to and collect principal from: Investors. 

Source GAO. 

Note: "Retrocessional coverage" is reinsurance obtained by a 
reinsurance company when it transfers risk to another reinsurer. A 
"special purpose reinsurance vehicle" (SPRV) is an entity created by 
the sponsor of a catastrophe bond to provide reinsurance to the 
sponsor and offer catastrophe bonds to investors. The SPRV is to hold 
the funds raised from the catastrophe bond offering in a bust in the 
form of Treasury securities and other highly rated assets. 

Proposal 1: Establish a Federal Facility to Facilitate Risk Transfer 
(reinsurance): 

Some state programs do not purchase reinsurance despite availability. 

* Officials from some state programs said that they limit 
participation in the reinsurance or ILS markets because the coverage 
they want is not available at a price they are willing or able to pay 
without significantly increasing premium rates charged to homeowners. 

According to reinsurance industry participants, the reinsurance market 
has sufficient capacity to cover state catastrophe program exposures, 
but only at premium rates sufficient for the reinsurers' risk of loss. 

* pay insurance premiums to and collect loss payments from: 
Reinsurers; According to these participants, the reinsurance industry 
has evolved over the past two decades and is better at absorbing shock 
losses and managing the cost to transfer risk. 

* pay insurance premiums to and collect loss payments from: 
Reinsurers; For instance, they said that in spite of heavy losses in 
2005 and 2008, many reinsurers now have excess capacity and may begin 
stock repurchases. 

Proposal 1: Establish a Federal Facility to Facilitate Risk Transfer 
(ILS): 

ILS retain a relatively small portion of natural catastrophe insurance 
risk, but that portion is growing. 

* Catastrophe bonds (the most common form of ILS) have contributed 
about $25 billion in total capital to insurance markets since the late 
1990s. 

* The global financial crisis temporarily slowed the growth of the ILS 
market. 
- In particular, the bankruptcy of Lehman Brothers exposed problems in 
how collateral is managed. 
- The market stalled as participants sought new ways to manage the 
funds pledged as security for the catastrophe bonds. 

* The market started to rebound in February 2009 and by the end of 
2009, 19 catastrophe bonds had been issued totaling about $3.4 billion. 

* As of December 2009, the total amount of catastrophe bonds 
outstanding was about $14 billion—about 7 percent of total global 
catastrophe risk. 

Generally, ILS are used by larger insurers and reinsurers to transfer 
significant risks that may not find coverage in the traditional 
reinsurance market. 

* However, one state insurance entity, the North Carolina Insurance 
Underwriting Association, issued two catastrophe bonds in 2009 and 
2010 providing a combined $505 million in protection. 

Proposal 1: Establish a Federal Facility to Facilitate Risk Transfer 
(challenges): 

ILS face certain limitations, such as basis risk, complexity, and 
cost, which vary depending on the parties' role in the transaction. 

* Potential sponsors (such as insurers, reinsurers, and state residual 
programs) are concerned about basis risk, which is the possibility 
that a sponsor will experience significant losses as a result of a 
natural catastrophe but that conditions will not necessarily trigger 
payment from the ILS. 

- Basis risk becomes an issue for a sponsor when the payment through 
the ILS instrument is triggered by an event other than the sponsor's 
actual losses. For example, payment on some ILS only occurs if a 
hurricane or earthquake exceeds a specified magnitude or industry-wide 
losses exceed a specified amount. 

- The potential exists for an ILS sponsor to incur significant losses 
when conditions do not occur that would trigger payment on the ILS. 

* Potential investors (such as hedge funds and institutional 
investors) identify data quality and transparency as significant 
limitations of ILS. 

- For instance, investors may lack data to make an informed risk 
assessment (such as risk models, exposure data, wind speed data) 
and/or may lack specific knowledge of the insurance risk involved and 
understanding of complex models. 

- As a result, investors generally prefer triggers based on a natural 
catastrophe that exceeds a specified magnitude or industry-wide losses 
that exceed a specified amount because a certain amount of uncertainty 
about risk is removed. 

- To reconcile the limitations cited by sponsors and investors, the 
industry is introducing "hybrid triggers" in ILS transactions that 
incorporate elements of different trigger types (for instance, actual 
sponsor losses and industry-wide losses). 

* Another limitation for potential sponsors is the relatively high 
cost of ILS transactions, including rating agency services, legal 
advice, risk modeling and analysis, and an arranger fee. 

Proposal 1: Establish a Federal Facility to Facilitate Risk Transfer 
(potential impact): 

Whether most states would use a federal facilitation program is 
unclear, and most states we reviewed do not favor or expressed no 
opinion about this proposal. 

* Insurance industry experts note that states could pool their risk 
now but choose not to do so because some states do not want to cross-
subsidize the losses of other states. 

* Some state entities do not access the reinsurance or ILS markets now 
because, in the short term, it is more expensive than accessing the 
capital markets through revenue bonds. 

* As described above, many state entities are concerned about basis 
risk on any ILS transaction. 
- Most ILS transactions utilize a trigger based on an event other than 
the sponsor's actual losses, and many state entities' premium rates 
remain too low relative to risks. 
- As a result, many state entities could have a shortfall of funds if 
its losses did not trigger the ILS, and it may not have collected 
sufficient premiums to cover that shortfall, necessitating either post-
funding or another source of capital, thereby defeating the purpose of 
issuing the ILS. 

The federal risk transfer facilitation program may not encourage the 
private market to insure natural catastrophe risk. 

* The federal program could replace many of the same functions already 
performed by private reinsurance brokers. 

* Creation of state reinsurance programs could replace the private 
reinsurance market in catastrophe-prone states to an extent similar to 
the Florida Hurricane Catastrophe Fund. 

* The federal program could limit uncertainty by providing access to 
state risk data but the potential impact of the data on private market 
participation is unclear. 

The federal program may expose taxpayers to the potential cost of 
implicit guarantees. 

* If state entities, reinsurers, or ILS investors encounter financial 
difficulty, the federal government might be expected to intervene even 
if such intervention is not explicitly provided for in the proposal 
because of the federal government's significant involvement in the 
transactions. 

It is unclear whether the federal program would be able to give state 
programs access to capital at reduced or below-market costs. However, 
to the extent low-cost capital is made available, it could allow state 
programs to continue to charge premium rates that do not fully reflect 
risks or even lower premium rates. 

* State program premium rates that do not fully reflect risks may 
result in greater public participation in state entities rather than 
private market. 

* Premium rates that do not fully reflect the risk of loss can also 
limit homeowner motivation to take steps to mitigate potential damages 
and could discourage participation by private market insurers who 
could not operate profitably at such low premium rates. 

Proposal 2: Provide Federal Guarantees of State Debt (overview): 

A federal guarantee of state bonds is intended to provide liquidity 
and capacity to qualified state insurance entities by making state 
pre- and post-event bonds more attractive to investors. 

The federal guarantee could help states overcome tight credit markets 
in a time of crisis after a natural catastrophe. 

* Federal government would guarantee up to a certain dollar amount for 
bonds issued for specific perils (such as hurricane and earthquake). 

* Guarantee period would be for a limited number of years, likely less 
than the full term of the bond. 

* Fees charged to state insurance entities for the guarantee would 
generally equal a small percentage of outstanding indebtedness covered 
by each guarantee. 

* The state entity would be required to satisfy eligibility 
requirements. 
- For instance, the state entity reports that expected losses are 
likely to exceed available cash resources, and debt issued by the 
state entity could be limited to 80 percent of the state entity's 
qualifying assets. 

State insurance entities are not always required to accumulate 
adequate funds or secure pre-event financing to meet their potential 
obligations and are generally post-funded by several mechanisms, 
including bonds. 

* Generally, bonds are secured by incoming premium payments, emergency 
assessments, and investment earnings of the state entity. 

* Some state insurance entities said that they face challenges in 
selling the bonds for a variety of reasons, including relatively low 
credit ratings or a tight credit market. 

Some state programs said that participation in the reinsurance markets 
is expensive and results in high premium rates for policyholders, who 
may therefore not purchase coverage. 

* These programs would prefer to use the post-funding mechanisms 
described above, particularly revenue bonds, to meet their potential 
obligations. 

A federal guarantee would essentially make state insurance entity 
revenue bonds equivalent to U.S. Treasury bonds in the eyes of 
investors. 

* Natural catastrophe risk would be transferred from the states to the 
federal government to some extent. 

Proposal 2: Provide Federal Guarantees of State Debt (potential 
impact): 

A federal guarantee could result in state entities continuing to 
charge premium rates that do not reflect the full risk of loss or even 
lowering rates. 

* It could decrease state programs' purchase of reinsurance. 

* State entities would have easier access to capital markets for post-
funding. Thus, they would pay less interest on their bonds and could 
pass along some of this savings in the form of lower premiums. 

* State entities could be encouraged to use post-funding mechanisms 
for catastrophe risk more frequently, which could increase taxpayers' 
exposure to the potential costs in the event of state financial 
difficulties. 

While lower premium rates could subsequently encourage broader public 
participation in state programs, lower rates could also discourage 
participation by private market insurers, that could not operate 
profitably at premium rates that do not fully reflect risk. 

Lower premium rates could also encourage development in high-risk 
locations and discourage mitigation efforts because low premium rates 
generally do not encourage mitigation. 

Proposal 3: A Federal Lending Facility (overview): 

A federal lending facility is intended to provide qualified state 
reinsurance programs with access to capital to address natural 
catastrophe losses when they encounter difficulty obtaining capital in 
the markets. 

The federal lending facility would exchange state post-funding of 
catastrophes for federal loans funded by Treasury bonds sold in the 
capital markets. 

* Loans would be available to a state reinsurance program if it has a 
capital shortage and is unable to obtain capital in the private market. 

* These liquidity loans would have a relatively short duration 
(perhaps 5-10 years) and low interest rates (some percentage of the 
rate for similar issues of Treasury debt). 

Loans would also be available if the state reinsurance program 
suffered significant insured losses (for instance, losses in excess of 
150 percent of aggregate state direct written premiums for property 
and casualty insurance). 

* These catastrophe loans would have a longer duration (perhaps 10 or 
more years) and low interest rates (some percentage of the rate for 
similar issues of Treasury debt). 

The state reinsurance program would not be required to pledge 
collateral for the loans, and there is no proposed procedure to cover 
the programs' failure to repay the loans. 

As noted above, insurers need to be able pay losses in any given year, 
but to collect premiums sufficient to pay potentially catastrophic 
losses would require prohibitively high premium rates. 

* To address this issue, insurers generally purchase reinsurance or 
issue ILS, which will help pay potentially catastrophic losses and 
spread the risk of catastrophic losses in any given year across the 
private market. 

* Some state insurance entities do not always purchase reinsurance or 
issue ILS to meet their potential obligations and are generally post-
funded by several mechanisms, including revenue bonds. 

Given its size, and its taxing and borrowing authority, the federal 
government would have an advantage over state insurance entities in 
bearing the timing risk associated with disasters.[Footnote 11] 

* A catastrophic loss would represent a larger portion of a given 
state's resources than the federal government. 

* The federal government generally has greater ability to borrow funds 
more quickly than do state governments. 

Proposal 3: A Federal Lending Facility (potential impact): 

A federal lending facility could encourage state entities to continue 
charging premium rates that do not fully reflect the risk of loss, or 
even lower premium rates, because the state entities could decrease or 
eliminate reinsurance purchases, and a lending facility could provide 
financial support in case of a deficit. 

* Lower premium rates could subsequently encourage broad participation 
in state programs but discourage mitigation efforts and private market 
participation. 

Federal government would assume the risk that it would have to loan 
potentially large sums to the larger state entities in the event of a 
major natural catastrophe, exposing taxpayers to the potential costs 
of a state failing to repay its debt. 

Proposal 4: Federal Reinsurance Program (overview): 

A federal reinsurance program would create federally backed 
reinsurance policies for state insurance entities. 

A federal reinsurance program is intended to serve as a backstop for 
state entities to increase the amount of insurance and reinsurance 
coverage available to states, expand the availability of catastrophe 
coverage, and possibly improve its affordability. 

* States would create reinsurance entities and enter into agreements 
with the federal government, paying premiums for the reinsurance that 
would be used to support the reinsurance fund. 

* The price of federal reinsurance coverage would be set at a price 
intended to cover the reasonably anticipated cost of all claims, all 
expenses, and possible reinsurance purchases by the federal program. 

* Federal reinsurance contracts would provide payments to state 
entities for storms of a certain magnitude (for example, 1-in-200 
years) up to some predetermined level of payments (for example, $200 
billion). 
- Within that range, the contract would provide payment covering a 
certain percentage of the state entity's insured losses (for example, 
90 percent). 
- The range of coverage applies for all events in the calendar year 
and not separately to each individual event. 

The federal reinsurance program would be prohibited from displacing or 
competing with the private insurance or reinsurance markets or capital 
market. 

Proposal 4 Federal Reinsurance Program (potential impact): 

To the extent the program would be required to charge premium rates 
that fully reflect the risk assumed by the program and did not 
displace or compete with the private insurance or reinsurance markets 
or capital market, federal reinsurance could limit use of taxpayer 
dollars. 

However, charging a reinsurance premium that does not fully reflect 
risk would expose the federal fund and the government to potentially 
significant unfunded contingent insurance risk. 

* Federal reinsurance would compete with and likely displace private 
reinsurance, despite explicit language prohibiting it, if the 
government offered coverage at levels that were well within private 
market capacity and set premium rates below what the private sector 
would charge for comparable risk. 

* In addition, federal reinsurance premiums that do not fully reflect 
risk could inadvertently encourage further development and population 
growth in areas with high natural catastrophe risk. 

The existence of federal reinsurance might affect market discipline, 
leading private insurers and state insurance entities to loosen 
underwriting guidelines and insure properties that would not have been 
insurable without the availability of (low-cost) federal reinsurance. 

* Such a change could be costly for the reinsuring federal facility. 

[End of Objective 2] 

Objective 3 Summary: Selected Countries Have Different Methods of 
Insuring Catastrophic Events: 

We have examined insurance practices in Australia, Canada, France, 
Germany, Japan, New Zealand, and Switzerland, which we selected based 
on our previous work (see GAO-09-188R). 

We found that while selected countries face natural catastrophe risks 
similar to those of the United Stated, the extent of natural 
catastrophe risk differs, leading each country to create unique 
methods of insuring risks. 

We also found that most methods used by the selected countries to 
insure against catastrophic risk did not appear directly transferable 
to the United States. However, a federal role in providing reinsurance 
for or sharing the costs of such risk, which is used in some other 
countries, is an option we have analyzed previously, noting that it 
presents both potential advantages and disadvantages. 

Background: 

In some countries, the government may participate in the insuring of 
catastrophe risks, while in others the private market alone insures 
such risks. 

Countries use various tools to reduce financial losses prior to a 
natural catastrophe, including: 

* encouraging mitigation,
* encouraging the public to purchase insurance, and, 
* coordinating with the private market to provide insurance. 

Characteristic of Selected International Programs: 

Figure 5: Exposure to Types of Catastrophe Events and Presence of
Government and Private Market Participation in Selected Countries: 

[Refer to PDF for image: illustrated table] 

Country: Australia; 
Type of natural catastrophe: Bush wildland fire: risk exposure; 
Type of natural catastrophe: Cyclones: risk exposure; 
Type of natural catastrophe: Earthquakes: risk exposure; 
Type of natural catastrophe: Floods: risk exposure; 
Type of natural catastrophe: Landslides: risk exposure; 
Type of natural catastrophe: Tornadoes: risk exposure; 
Type of natural catastrophe: Other: risk exposure; 
Government and private market participation: private market. 

Country: Canada; 
Type of natural catastrophe: Bush wildland fire: no risk exposure; 
Type of natural catastrophe: Cyclones: no risk exposure; 
Type of natural catastrophe: Earthquakes: risk exposure; 
Type of natural catastrophe: Floods: risk exposure; 
Type of natural catastrophe: Landslides: risk exposure; 
Type of natural catastrophe: Tornadoes: risk exposure; 
Type of natural catastrophe: Other: risk exposure; 
Government and private market participation: private market. 

Country: France; 
Type of natural catastrophe: Bush wildland fire: risk exposure; 
Type of natural catastrophe: Cyclones: risk exposure; 
Type of natural catastrophe: Earthquakes: risk exposure; 
Type of natural catastrophe: Floods: risk exposure; 
Type of natural catastrophe: Landslides: risk exposure; 
Type of natural catastrophe: Tornadoes: risk exposure; 
Type of natural catastrophe: Other: risk exposure; 
Government and private market participation: both. 

Country: Germany; 
Type of natural catastrophe: Bush wildland fire: risk exposure; 
Type of natural catastrophe: Cyclones: risk exposure; 
Type of natural catastrophe: Earthquakes: risk exposure; 
Type of natural catastrophe: Floods: risk exposure; 
Type of natural catastrophe: Landslides: risk exposure; 
Type of natural catastrophe: Tornadoes: risk exposure; 
Type of natural catastrophe: Other: risk exposure; 
Government and private market participation: private market. 

Country: Japan; 
Type of natural catastrophe: Bush wildland fire: no risk exposure; 
Type of natural catastrophe: Cyclones: risk exposure; 
Type of natural catastrophe: Earthquakes: risk exposure; 
Type of natural catastrophe: Floods: risk exposure; 
Type of natural catastrophe: Landslides: risk exposure; 
Type of natural catastrophe: Tornadoes: risk exposure; 
Type of natural catastrophe: Other: risk exposure; 
Government and private market participation: both. 

Country: New Zealand; 
Type of natural catastrophe: Bush wildland fire: no risk exposure; 
Type of natural catastrophe: Cyclones: risk exposure; 
Type of natural catastrophe: Earthquakes: risk exposure; 
Type of natural catastrophe: Floods: risk exposure; 
Type of natural catastrophe: Landslides: risk exposure; 
Type of natural catastrophe: Tornadoes: risk exposure; 
Type of natural catastrophe: Other: risk exposure; 
Government and private market participation: both. 

Country: Switzerland; 
Type of natural catastrophe: Bush wildland fire: risk exposure; 
Type of natural catastrophe: Cyclones: no risk exposure; 
Type of natural catastrophe: Earthquakes: risk exposure; 
Type of natural catastrophe: Floods: risk exposure; 
Type of natural catastrophe: Landslides: risk exposure; 
Type of natural catastrophe: Tornadoes: no risk exposure; 
Type of natural catastrophe: Other: risk exposure; 
Government and private market participation: both. 

Country: United States; 
Type of natural catastrophe: Bush wildland fire: risk exposure; 
Type of natural catastrophe: Cyclones: risk exposure; 
Type of natural catastrophe: Earthquakes: risk exposure; 
Type of natural catastrophe: Floods: risk exposure; 
Type of natural catastrophe: Landslides: risk exposure; 
Type of natural catastrophe: Tornadoes: risk exposure; 
Type of natural catastrophe: Other: risk exposure; 
Government and private market participation: both. 

Source: GAO. 

[End of figure] 

Programs Use Different Approaches to Insure Risks: 

There have been no significant program changes in the selected 
countries since our last report (2008). 

* Australia: If a homeowner has a mortgage on their home, they must 
purchase natural catastrophe insurance from 1 of approximately 140 
private insurance companies. 

* Canada: The private market provides household insurance for 
insurable catastrophe risks such as fire, lightening, storms, 
tornadoes, and hail. Coverage is not usually provided for flood, or 
weight or pressure of snow or ice. Earthquake coverage can be 
purchased as an extension of the standard household policy. 

* France: By law, Catastrophes Naturelles (CATNAT) coverage is a 
mandatory extension of property insurance policies written by private 
insurance companies. The government must declare a state of natural 
disaster for CATNAT coverage to take effect. 

* Germany: Private insurance companies provide insurance coverage for 
avalanche, flood, earthquake, landslide, weight of snow, and volcanic 
eruption. Insurance is provided as an extension of natural risk 
insurance. 

* Japan: Private market insurance companies in Japan provide the 
public with insurance against windstorm and flood risks, as well as 
earthquake insurance on dwellings. However, the insurers reinsure all 
earthquake policies with a government reinsurance program that pays a 
portion of losses incurred above specified amounts, with that portion 
increasing as the losses increase. 

* New Zealand: The New Zealand Earthquake Commission (EQC) is a 
government agency that runs a natural catastrophe residential 
insurance program. The EQC provides coverage for damage from 
earthquake, tsunami, natural landslides, volcanic eruption, 
hydrothermal activity, and storm, as well as flood in the case of 
residential properties. By law, EQC holds private market insurance 
companies responsible for collecting policyholder premiums. However 
EQC pays all losses. Policyholders may choose to purchase additional 
coverage in the private market. 

* Switzerland: In 19 cantons, insurance against fire and damage by 
natural disasters is offered by cantonal building insurers through a 
government-run program.[Footnote 12] In the 7 remaining cantons, 
private insurers insure buildings against fire and damage by natural 
forces and are members of the Swiss Natural Perils Pool, a consortium 
tool used to distribute risks among the insurers. 

Programs Use Different Rate-Setting Practices: 

* Australia and Germany: Private insurance companies perform 
extensive, risk-based underwriting in order to develop premium rates 
adequate to cover eventual losses. 

* France: Policyholders purchase CATNAT coverage for an additional 12 
percent above their primary property insurance coverage. Rates have 
not changed in over 10 years. 

* Japan: For earthquake coverage, premium rates are based on structure 
and location of the insured building, including discounts for 
earthquake-resistance capability. 

* New Zealand: Fixed rates of $60 per year for natural catastrophe 
coverage were set by the government just after World War II and have 
not been altered since. 

* Switzerland: Rates are based on universally affordable premiums 
instead of risk of loss and are uniform within each territory. 

Encouraging Public Participation: 

Some Countries Encourage the Public to Purchase Natural Catastrophe 
Coverage: 

* Australia: The private industry encourages the public to purchase 
catastrophe insurance through marketing campaigns. 
- Approximately 70 percent of the population is insured due to 
mandatory purchase requirements if there is a lien on the home. 

* France and New Zealand: More than 90 percent of the population has 
natural catastrophe insurance due to mandatory purchase requirements 
if there is a lien on the home. 

* Japan: Both the government and GIAJ have conducted public relations 
campaigns for earthquake insurance on dwellings. Additionally, to 
limit the cost burden to policyholders, part of earthquake insurance 
premiums can be deducted from taxable income. 
- Because Japan does not have mandatory purchase requirements, 
approximately 21 percent of the population is insured. 

* Switzerland: Almost 100 percent of homes are insured against 
catastrophe risks due to mandatory purchase requirements. 

Private Market Coordination: 

Some Countries Coordinate with the Private Market to Provide Natural 
Catastrophe Insurance: 

* Canada: The private insurance market and supervisory authorities 
have coordinated efforts to treat earthquake risks, the country's 
largest catastrophe risk. The authorities created a tax-free reserve 
and certain premium provisions to help ensure the financial stability 
of insurers subsequent to an earthquake. 

* France: Through the Caisse Centrale de Reassurance (CCR), the 
government offers unlimited reinsurance coverage for catastrophe risks 
to private market insurers. Approximately 80 percent of insurance 
companies purchase CCR coverage. 

* New Zealand: Private insurers are required to collect premiums from 
policyholders for coverage through the government-run program. The 
program, in turn, purchases reinsurance in the private market. The 
government of New Zealand guarantees payment of losses that exceed 
reinsurance limits. 

* Japan: Private insurers reinsure all the earthquake insurance they 
write with the Japanese Earthquake Reinsurance Company (JER), which in 
turn cedes some of this risk to a private reinsurer and back to the 
primary insurers. The remaining risk retained by JER is guaranteed by 
the Japanese government. 

Figure 6: Liability Distribution of Japanese Earthquake Insurance (yen 
to dollar conversion as of March 2010): 

[Refer to PDF for image: illustration 

Government liability: (4,391.513 yen; 48.7B dollars): 95%; 

Private	insurer's liability: (1,108.55 yen; 12.3B dollars): 5%. 

Source: JER. 

[End of figure] 

Mitigation: 

Mitigation is encouraged in various ways. 

* Australia: Mitigation is achieved through building regulations. 

* France: Local governments and communities are responsible for 
developing and implementing risk-prevention plans that are approved by 
the central government. 

* Germany: States and local communities are primarily responsible for 
implementing natural hazard policies, including mitigation. 

* Japan: The GIAJ has urged policyholders to mitigate their risks by 
sponsoring various educational activities. Premium discounts are also 
given for mitigation efforts. 

* New Zealand: There is no financial incentive for homeowners to 
mitigate their property risks; however, New Zealand is considering 
subsidizing an inspection system. 

* Switzerland: Cantons are responsible for implementing mitigation 
policies that they develop in coordination with the federal government 
and other participants. 

Applicability of Practices in Selected Countries to the United States: 

Most international practices cannot be directly applied to the U.S. 
market; however, state programs such as CEA look to Japan for best 
practices. 

* Types of catastrophic events vary among different countries; 
however, Japan and California face similar earthquake risks. 

Though many countries are subject to catastrophe risks similar to 
those of the United States, the extent to which they suffer from a 
severe event differs significantly. 

* Reinsurers believe that internationally, hurricanes in the United 
States present the largest exposure to catastrophic losses, followed 
by earthquakes in the United States, then by windstorms in Europe, and 
then earthquakes in Japan. 

Damages from Previous Catastrophic Events Differ Across Countries: 

Figure 7: Previous Catastrophic Event Damages in Selected Countries: 

[Refer to PDF for image: illustrated table] 

Country: Japan; 
Event: Earthquake; 
Storm year: 1995; 
Number of deaths: 6,000; 
Damage: total cost: $100.0 billion; 
Damage: insured cost: $3.0 billion. 

Country: United States; 
Event: Hurricane; 
Storm year: 2005; 
Number of deaths: 1,200; 
Damage: total cost: $75 billion; 
Damage: insured cost: $43.6 billion. 

Country: Germany; 
Event: Flood; 
Storm year: 2002; 
Number of deaths: 21; 
Damage: total cost: $16.3 billion; 
Damage: insured cost: $2.5 billion. 

Country: Canada; 
Event: Ice storm; 
Storm year: 1998; 
Number of deaths: 52; 
Damage: total cost: $6.6 billion; 
Damage: insured cost: $1.6 billion. 

Country: Switzerland; 
Event: Flood; 
Storm year: 2005; 
Number of deaths: N/A; 
Damage: total cost: $2.4 billion; 
Damage: insured cost: $1.9 billion. 

Country: Australia; 
Event: Hail storm; 
Storm year: 1999; 
Number of deaths: [Empty]; 
Damage: total cost: $1.5 billion; 
Damage: insured cost: [Empty]. 

Country: New Zealand; 
Event: Earthquake; 
Storm year: 1931; 
Number of deaths: 261; 
Damage: total cost: 0; 
Damage: insured cost: N/A. 

Source: GAO analysis. 

Note: Numbers are not adjusted for inflation. 

[End of figure] 

Applicability of Practices in Selected Countries to the United States: 

Provision of reinsurance to private market insurers by the federal 
government, which is used in several countries, is a practice we 
reviewed in a previous report (see GAO-08-7), and it has several 
potential advantages and disadvantages. 

* Potential advantages include increasing insurers' willingness to 
write coverage for natural catastrophe losses, decreasing insurers' 
motivation to cancel such coverage in affected regions following a 
disaster, and limiting the need for some types of post-event 
government payouts. 

* Potential disadvantages include displacement of private reinsurers; 
political and consumer pressure to keep premium rates low so that 
consumer premiums are kept low, which could expose the federal 
government to potentially large losses; and reduced market discipline, 
where insurers loosen underwriting guidelines because of the existence 
of low-cost federal reinsurance, which could inadvertently encourage 
development in high-risk areas. 

[End of section] 

Footnotes: 

[1] See GAO, Natural Disasters: Public Policy Options for Changing the 
Federal Role in Natural Catastrophe Insurance, [hyperlink, 
http://www.gao.gov/products/GAO-08-7] (Washington, D.C.: Nov. 26, 
2007). 

[2] See GAO, Natural Hazard Mitigation: Various Mitigation Efforts 
Exist, but Federal Efforts Do Not Provide a Comprehensive Strategic 
Framework, [hyperlink, http://www.gao.gov/products/GAO-07-403] 
(Washington, D.C.: Aug. 22, 2007). 

[3] Reinsurance is insurance for insurers that enables the insurer to 
transfer some its risk to another insurer, called a reinsurer. 
Insurance-linked securities are capital market instruments that cover 
insured catastrophe risks. They were developed as an alternative to 
traditional reinsurance. 

[4] For example, similar proposals are contained in the House and 
Senate versions of the Homeowners' Defense Act of 2009 (H.R. 2555, 
111th Congress, 1st Sess., and S. 505, 111th Congress, 1st Sess., 
respectively). 

[5] See GAO, Natural Hazard Mitigation and Insurance: The United 
States and Selected Countries Have Similar Natural Hazard Mitigation 
Policies but Different Insurance Approaches, [hyperlink, 
http://www.gao.gov/products/GAO-09-188R] (Washington, D.C.: Dec. 22, 
2008). 

[6] See GAO, Natural Disasters: Public Policy Options for Changing the 
Federal Role in Natural Catastrophe Insurance, [hyperlink, 
http://www.gao.gov/products/GAO-08-7] (Washington, D.C.: Nov. 26, 
2007). 

[7] See GAO, Natural Hazard Mitigation: Various Mitigation Efforts 
Exist, but Federal Efforts Do Not Provide a Comprehensive Strategic 3 
Framework, [hyperlink, http://www.gao.gov/products/GAO-07-403] 
(Washington, D.C.: Aug. 22, 2007). 

[8] For example, similar proposals are contained in the House and 
Senate versions of the Homeowners Defense Act of 2009 (H.R. 2555, 111th 
Congress, 1st Sess., and S. 505, 111th Congress, 1st Sess.). 

[9] Some insurers offer premium reductions or "mitigation credits" to 
homeowners who perform certain tasks to help their homes to better 
withstand natural disasters. 

[10] Reinsurance is insurance for insurers that enables the insurer to 
transfer some of its risk to another insurer, called a reinsurer. 
Insurance-linked securities are capital market instruments that cover 
insured catastrophe risks. They were developed as an alternative to 
traditional reinsurance. 

[11] Timing risk" is the possibility that events will occur before 
insurers have collected enough premiums to cover them. 

[12] The 26 cantons of Switzerland make up the member states of the 
federal state of Switzerland. 

[End of section] 

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