A Protection Incentive

In a year in which natural disasters have dominated the news and have strongly — and negatively — influenced insurance companies’ bottom lines, insurers, industries and governments may want to take notice of an idea emanating from academia.

Professors Howard Kunreuther and Erwann Michel-Kerjan of the University of Pennsylvania’s Wharton School note that while natural disasters are becoming more common and more expensive, the human and financial losses from these events can be greatly reduced through incentives to purchase insurance and install protective measures.

The researchers point out that economic losses from catastrophic events have risen from a decade loss of $528 billion (1981-1990) to more than $1.2 trillion in the period 2001–2010. Despite the increasing costs resulting from natural disasters, few property owners in hazard-prone areas have purchased adequate disaster insurance, according to Kunreuther and Michel-Kerjan.

As those in insurance also know, many customers who buy such insurance often let their policies lapse after a few years. In addition, few property owners invest in measures to fortify their properties.

Kunreuther and Michel-Kerjan propose a comprehensive program that creates an incentive structure to encourage property owners in high-risk areas to purchase insurance to protect themselves financially should they suffer losses from disasters and to undertake measures to reduce property damage and the accompanying injuries and fatalities from future disasters.

One interesting proposal is to tie insurance and other protective measures to the property rather than the property owner as currently is the case. The professors contend this would help spread costs out over time and address the reluctance of property owners to invest in loss-prevention measures because the upfront costs often far exceed the short-run benefits.

The two set forth their ideas in an article in the Fall 2011 Issues in Science and Technology journal. This is the journal of the National Academy of Sciences, National Academy of Engineering, Institute of Medicine, and the University of Texas at Dallas. Find out more at www.issues.org.

Topics Property