Government failure at the center of California's insurance woes

California has recently been described as, “a state riven by billion-dollar wildfires, mudslides, and the ever-present threat of a catastrophic earthquake.” For instance, the 2017 and 2018 fires in the state reportedly wiped out decades of insurance industry profits. And State Farm, the largest property insurer in the state, lost $5.9 billion last year. At the same time, several major property insurers, including State Farm, announced they would stop writing new property insurance in California. State Farm, in a press release, blamed increasing natural disaster risk, higher rebuilding costs, and “a challenging reinsurance market.”

On the surface, the causal connection involved would seem to be straightforward. But by itself, it is not. It is missing a crucial element if we are to understand and cope with the property insurance crisis. That element is that the crisis is not a market failure, to be blamed on the insurance companies, but a combination of government failures undermining the market.

The reason State Farm's press release alone is insufficient to understand the issues is that while higher risks would increase insurers' costs, insurance markets are all about pricing risk. As long as the risk is predictable, higher costs do not prevent insurance from being offered. The cost would be higher, but it wouldn't require a halt to writing new policies. To make sense of such a withdrawal requires that we ask what state policies do to raise those costs and what they do to prevent issuers from being compensated for them.

There are several aspects of those issues, stretching to home-building permits in highrisk areas to state wildfire policies. But even if we limit our focus solely to insurance policy, there are several ways state policies undermine the California property insurance market. One of them is Proposition

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