Climate change-driven events—like heat waves, droughts, floods, and fires—cause damage to communities’ and individuals’ health and safety. But these events also threaten the financial well-being of communities across the U.S. through their impact on markets and local economies. Nowhere is this more visible recently than in the property insurance market.
In this three-part series, we’ll be breaking down how the climate crisis is creating risk for three key financial systems—and how these risks to the insurance system, the real estate market, and community banking can affect communities.
Part 1: Climate-related risks to the property insurance market
Over the last few years, we have witnessed big shifts in property insurance markets. Insurance costs have increased and availability decreased in regions of high risk to climate-driven disasters, driven in-part by the increasing frequency and severity of flooding, hurricanes, and wildfires, increasing development in areas prone to hazard, growing costs of rebuilding, and high costs of reinsurance.
In California, the states’ largest insurers are pulling out of the home insurance market, citing inability to financially cover likely wildfire loss; in Louisiana, the homeowners insurance market has declined rapidly since many insurers became insolvent after the 2020/2021 hurricane season. The National Flood Insurance Program (NFIP), which accounts for most of the flood insurance market, recently modernized its modeling and pricing to better reflect current flood risk, leading to big jumps in insurance premiums for high-risk areas. State residual insurance programs which exist as “insurers of last resort”, often to cover perils that standard insurance policies exclude like wind and wildfire – are also increasing rates to compensate for greater losses, risks, and re-insurance costs. But the recent pressures on the insurance availability and affordability are not just hitting coverage for specific perils; standard homeowners insurance policies have increased across the country as well, as insurance companies balance increasing costs on their portfolios.
Impacts on local communities
In the case of flood insurance, these market changes represent a reckoning with historical direct and indirect subsidies that have suppressed the true price of climate risk in insurance markets, indirectly enabling more development in risky areas and leaving households in the dark about the financial risk they faced in their homes. But for households and communities, the sudden rising costs and declining availability of insurance also have a material impact on economic wellbeing.
Rising insurance costs impose unexpected and unplanned financial burdens on households, especially for those who have invested savings into their home and rely on a mortgage. Because most insurance policies are only offered for one-year periods, households have little ability to understand the true cost of insuring their home over a typical 30-year mortgage. The financial impact of unexpected insurance market changes is worse for families with low income or on a fixed budget.
If households adjust by underinsuring or if they lose insurance coverage entirely, both individuals and communities face increased economic vulnerability to climate-driven hazards. Evidence shows that households with insurance financially recover better from disasters than those without, avoiding delinquent payments and maintaining credit. For households who adjust by under-insuring or forgoing insurance all together, they risk losing the wealth accrued from their home if a disaster strikes, as other sources of funding such as federal aid are not sufficient (or even designed) to fully cover damage and rebuild. Community-wide economic health is impacted if families cannot insure, as research has shown that business activity, local housing stock, and overall GDP post-disaster are impacted by household-level insurance take-up. Local governments face the risk of higher government expenditures and increased debt for recovery if households in their community experience damage that they are uninsured for.
How regulators are responding to climate-related risks to the property insurance system
Given these disruptions, federal regulators recently took the first major step in grappling with the climate risk to the insurance market: The Federal Insurance Office (FIO) has launched a new effort to gather data from private insurers in areas of high climate risk to better examine climate-driven market changes, and published recommendations for regulation around climate-related risk. FIO’s national analysis of the largest private insurance groups will assess changes in availability, cost, and non-renewal trends in homeowners insurance due to hazard risk over the past six years. The data collection is targeting the biggest insurance entities to capture the largest swath of the market: 14 insurance groups, out of the approximately 195 operating in the US, accounting for 70% of homeowners’ premiums.
This represents a major step forward in understanding climate-related risks in the private insurance market. While the National Association of Insurance Commissioners (NAIC) does deploy a Climate Disclosure Survey, it is voluntary, broad in scope, generates qualitative responses, and cannot show how market changes might affect households. By mandating standard data from a broad swath of companies, FIO’s data collection will provide the first comprehensive look at how financial risk to the insurance is affecting communities. EDF supports this data collection, and filed comments advocating that FIO should go further to ensure this effort has a broader impact on our understanding of insurance risk by making data accessible to researchers and the public, and monitoring a broader range of insurance data.
While FIO’s action is important, households and communities will likely not see a change in insurance access or price in the near-term from FIO’s rule. FIO’s capacity is limited to data collection and research. Insurance is primarily regulated by states, and the FIO does not have regulatory authority over rate setting or insurance company business. How state regulatory agencies respond to their local insurance markets will likely make a more immediate difference to households and communities. All eyes are on states like Florida, Louisiana, and Colorado, as lawmakers take various approaches to prop up the insurance markets; and California, New York, and Vermont insurance regulators have all committed broadly to climate-risk monitoring.
How EDF is helping to address climate-related risk to insurance systems
EDF economists are working to research and policy advocacy for insurance and risk management approaches that can help us to steer investment toward resilient futures and provide inclusive and equitable financial protection.
EDF economists are undertaking research exploring the equity implications of insurance as an economic resilience tool, by examining differential treatment in insurance claims processing. We are also working directly with local researchers and advocates, including in Florida and Louisiana, to better understand climate stress to insurance markets, and find regulatory solutions that help vulnerable households have financial protection. For example, we designed and launched a pilot project in NYC, in collaboration with the New York City Mayor’s Office of Climate and Environmental Justice, Center for NYC Neighborhoods and SBP, a national disaster recovery nonprofit, exploring community-based parametric insurance can be used to reach more people with less cost — so more people are equipped with the resources to rebuild, and we reduce inequities in recovery after a disaster strikes.