Download

Working Paper 144

Abstract

Flooding is the largest natural disaster risk in England and it is expected to rise even further as we experience a changing climate and continue putting more people and property in harm’s way.

Managing this growing flood risk requires a broad portfolio of measures to reduce the probability of flooding, keep impact and damages to a minimum and provide financial support for the residual risk. Agreeing on how we pay for this now and in the future is a challenge, with competing drivers such as fairness, economic efficiency, political feasibility and public acceptance all playing their part.

One example for this is the recent debate about the future of flood insurance. After more than two years of negotiations between government and the private insurance industry, details of a new scheme (Flood Re) have now been published, with the aim for implementation in summer 2015. While rising flood losses and increasing costs of insurance are the two main reasons for reforming the existing insurance arrangements, one important aspect has been widely neglected: how the existing arrangement and new flood insurance proposal reflect on the need to manage rising flood risks.

We investigate this in the context of the assumption that insurance can support and trigger risk reduction behaviour if correctly designed and implemented. We ask if and how the existing and the proposed scheme contain incentives for risk reduction or whether they will increase moral hazard. By applying our analytical framework we find an absence of formal incentive mechanisms in the existing, and in the newly proposed Flood Re scheme. We highlight some of the barriers for applying insurance to risk reduction and point to some possible modifications in the Flood Re proposal to deliver a greater link between risk transfer and risk reduction.

Our investigation offers some insights into the challenges of designing and implementing flood insurance schemes – a task that is currently being considered in a range of countries, including several developing countries, who hope to apply flood insurance as a tool to increase their climate resilience.

Swenja Surminski and Julian Eldridge

Keep in touch with the Grantham Research Institute at LSE
Sign up to our newsletters and get the latest analysis, research, commentary and details of upcoming events.