Flood Funding

Written evidence submitted by Paul Hinton

I have just returned from a lengthy trip, but I write to express dismay about something I read in the Sunday Times three weeks ago, just as I left. It was reported that your Environment Committee had received a proposal for consideration, from the Association of British Insurers, for a levy on all home insurance policy holders, to benefit insurers and thereby encourage them to continue insuring homes at high risk of flooding. I regard that as totally unacceptable and earnestly hope you will encourage government to refuse the proposal, because it will create a dangerous moral hazard.

The current situation, where insurers are granting cover (presumably at unduly low rates that do not adequately reflect the risk) is already unacceptable. Insurers' shareholders will be requiring a certain level of dividend to compensate them for shouldering their companies' risks, so unless they have historically been over-rewarded, which seems unlikely, the existing arrangement must already involve an unacceptable cross-subsidy between policy holders. Nor should the insurance be subsidised by government. I agree that insurers should be required to give cover (unless damage is inevitable), but only on a proper risk-assessed underwriting basis, even if that means premiums become unaffordable for some.

I am sure you know that for many years now it has been possible, before purchasing a property, to check the degree of flood risk on the relevant government websites or other paper-based sources of information. Those purchasing property in disregard of the risks indicated by the published data must bear the consequences.

One effect of the availability of data has been an increase in the prices of lower risk property. Furthermore, some owners of such property, even in situations of high elevation, have invested further, by installing improved drainage to protect themselves against flash floods. So contrary to the observations of those who promote subsidy, it is not the case that we all face significant risk. It must be unacceptable for those taking care in their property purchases and making such additional improvements to be called upon to subsidise those who fail to do so, or who disregard the risks. Otherwise irresponsibility is being encouraged.

It is the case that some owners, because of depressed prices resulting from blight by a flood history, have invested in property they would normally be unable to afford. Those purchasers must be required to accept the resulting trade-offs. It is unacceptable for their insurance to be subsidised by those who prefer not to be an undue burden on others.

There may very well be a political difficulty to which government sees some sort of subsidy as a solution. If going even a little way down that road, however, government must take great care to avoid creating a significant moral hazard of discouraging the public from feeling responsible for their own protection: for example by limiting beneficiaries to those who purchased their properties before flood risk data was being promulgated. Also developers must not thereby be encouraged to build in higher risk areas (and if they do, they must be required first to pay for flood defences). Too much of moral hazard already exists in our society and it is one important reason for the financial crisis.

If government chooses to disregard the moral hazards and permits the subsidy to continue, it must, in exchange, oblige ALL the insurers to offer policies that give an option to exclude natural flooding risks, so that those who protect themselves properly can be rewarded; also so that those who have purchased property in high risk areas can insure affordably against other risks.

If that is not regarded as possible, then a lesser encouragement for the responsible would be for insurers to be obliged to relate the cross-subsidy to each policy holder's premium and not permit any flat rate levy. The reason I said at the outset that a fixed levy would be particularly unacceptable is because it would have the highly undesirable result of penalising those who elect routinely to reduce the risk they present to fellow policy holders and the companies' shareholders by selecting large deductibles and thereby reducing their premiums. Risk retention is an important incentive to acting responsibly and must not be discouraged.

I hope you can reassure me that you will be urging government to adopt measures that do not penalise the responsible, as at present, or that will at least encourage them.

March 2013