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U.S. House of Representatives,
Subcommittee on Housing and Community Opportunity,
Committee on Banking and Financial Services,
Washington, DC.

    The subcommittee met, pursuant to call, at 2:40 p.m., in room 2128, Rayburn House Office Building, Hon. Rick Lazio, [chairman of the subcommittee], presiding.

    Present: Chairman Lazio; Representatives Ney, Baker, Kelly, Hill, Sweeney, Terry, Frank, Velazquez, J. Maloney of Connecticut, Hooley, Lee, Goode, and Sherman.

    Chairman LAZIO. The hearing shall come to order. I want to wish everyone a good afternoon. I am looking forward to what promises to be an exceptionally constructive hearing. This is the first hearing in this Congress that we have had on natural disasters and our ability to limit our exposure to them through risk mitigation.

    Today we meet to hear testimony on the growing threat of natural disasters and the impact on homeowners' insurance availability. Let me begin by saying we are going to limit opening statements by agreement to ten minutes on both sides as a result of discussions that I have had with Mr. Frank.

    I am going to take a few minutes on my side, then I will yield to any others as they come up on our side. Then we will then turn to Mr. Frank, and he will manage the ten minutes on his side for opening statements.
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    Evidence accumulated during the 1990's has demonstrated that the rising toll from natural disasters is placing a significant strain on homeowners' insurance markets in many parts of the country.

    In particular, Hurricane Andrew in Florida and the California Northridge earthquake have led many insurers to withdraw from these vulnerable areas. In some cases, insurers have stopped underwriting business in these areas entirely, leaving families with very little opportunity for protection against catastrophic loss. These trends are disturbing and represent a real crisis for homeowners across the country.

    Three States have created their own programs to address the insurance availability crisis. They are California, Florida, and Hawaii.

    In the face of the growing threat of natural disasters, a number of other States are considering similar proposals. Forecasters predict that both the East and Gulf Coasts of America may be entering a long-anticipated, prolonged siege of more frequent and more destructive hurricanes.

    More frequent and more forceful storms coupled with the increase in population and development in coastal areas means that disasters resulting in multibillion dollar losses will become increasingly common.

    Since 1983, the Federal Government has spent more than $75 billion on natural disaster assistance. It may only be a matter of time before a single storm exceeds $50 billion in damages.
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    In my own State of New York, in the worst of cases, a single catastrophic event could cause as much as $100 billion in damages if we stand by and do nothing. If we fail to plan for such a future, what will be the cost, not only to the taxpayers, but to the individuals and families devastated by natural disaster?

    Congressional response, particularly over the last half decade, has been hopeful. Just last month, the House passed two separate bills designed to address disaster mitigation, clearly an important element in preparing for natural disasters, but an element that lies outside the jurisdiction of this subcommittee.

    Legislation before this subcommittee this year is based on proposals originally devised in the 103rd Congress by Republicans and Democrats in both the House and Senate. Our legislation passed the committee last year with strong support from both sides of the aisle by a vote of 33 to 12, the furthest this has gotten in the House.

    This year, we reintroduced our proposal with the support of the Chairman of the committee, Mr. Leach, the Vice Chairman, Mr. McCollum, and the Ranking Member, Mr. LaFalce, and almost 50 other Republicans and Democrats.

    I intend to recommend to Chairman Leach that the committee hold additional hearings on the substantive issues of our proposal from a variety of perspectives and then move to full committee markup soon thereafter.

    On the most basic level, our proposals are about providing security for unprotected families with responsible and minimal Government intervention. Families will have the satisfaction of knowing they will be able to take care of loved ones and enjoy a better quality of life because of that satisfaction.
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    With more ability to safeguard what is in many cases their greatest financial investment, more Americans will have the peace of mind that they can protect their homes and ultimately provide for the greater well-being of their families.

    I now would like to retain the balance of my time and turn to Mr. Frank for recognition.

    Mr. FRANK. Thank you, Mr. Chairman. This is an unusual hearing in that I think I and other Members really expect to learn something from it. Hearings are often kind of set pieces around here. But as I approach this hearing myself, I am reminded of a member of my staff who, after going through two political campaigns in Massachusetts, went to Vermont as a volunteer and came back amazed. He was a young man at the time. And he said, ''You know, when a politician has a meeting in Vermont, and someone shows up and asks a question, it is because they want to know the answer.'' That was not a phenomenon which Massachusetts politics had familiarized him with.

    So I feel that way here. Hearings are often places where people have, for good reasons, viewpoints that they want to deal with. Here, I am much more open and hope to learn a great deal. I have already learned something. I didn't know you had a vice chairman on the subcommittee. I have been here 19 years; I never heard of a vice chairman. So I know we now have one here.

    The problem is a real one, trying to have ownership be affordable. But there are some real difficulties with this kind of intervention. I do note that I welcome this from one standpoint, and that is I have not been a fan of those who have argued that the private sector was, after all, the fount of wisdom and efficiency, and that any time the public sector interfered with the private sector it would be damaging.
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    What we have here is, of course, a significant intervention by the public sector into the private sector, apparently welcomed by many in the private sector. And I have no ideological predisposition against private sector-public sector cooperation; and I am delighted from time to time to see that my Republican colleagues don't either, at least not when the private sector wants to be interfered with.

    I would only note that for those who were staunch supporters of the principles of unfettered free enterprise as articulated by Milton Friedman, Friedrich Hayek and Ludwig von Mises, this is, of course, a great deviation from those principles. This is a very big fat public intervention into the private market. It may very well be justified. But I would note that an absolute unfettered and unalloyed commitment to pure free enterprise is not a faucet which one can turn on and off. The ideology does not withstand big exceptions. I think this kind of pragmatic approach that is manifested here is a good one.

    So I really look forward to getting guidance from this panel and others as to how we deal with this difficult situation. How do we take a function which is primarily private and design some public intervention for those extraordinary cases when the private sector may need some help?

    I will say it is not exceptional here. It is not totally relevant here. But we are on the general subject of the relationship between the public and the private sectors. I have been struck by the extent to which the leading edge of the American private sector, the technology industry, having made an error on their own with regard to the Year 2000, is now coming to Government to get some help with it. Again, I think that is entirely appropriate. I think there are times that the public sector needs to come to the aid of the private sector. I do want to stress that that does make it hard for people to argue that should never happen.
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    With that, Mr. Chairman, I would reserve. I don't know if any of my colleagues are going to want to have any opening statements.

    Chairman LAZIO. I am going to recognize Mr. Baker.

    Mr. BAKER. Thank you, Mr. Chairman. I want to express my appreciation to you for conducting this hearing and again moving on such important legislation. I share the view that something should appropriately be done. We are talking about disasters of significant consequence, not just financially, but significant human suffering.

    And certainly after private resources have been utilized and there are no other avenues, the appropriate response of Government is to help people in times of extraordinary difficulty.

    And I speak to the concern of Louisiana perspective. We have been fortunate for many years not to have a significant storm move across the Gulf and bring the damage which regrettably came to Southern Florida. But we know that eventually that is an inevitable act; and we are not, in my view, sufficiently prepared today in the private sector to adequately handle what would be a rather dramatic natural disaster.

    I am particularly pleased, though, in constructing the hearing, Mr. Chairman, that you found the ability to get a good educated Louisiana perspective from the panel of witnesses, although I will enjoy hearing from all of the witnesses today.

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    I certainly want to welcome Mr. Sterbcow from New Orleans to give us that up-front and personal view, what it means to Louisiana. So welcome to the subcommittee. And I know you will be properly introduced at a later time. Thank you, Mr. Chairman, for your courtesies.

    Chairman LAZIO. I thank the gentleman.

    Mr. FRANK. We will continue to reserve and probably yield back, Mr. Chairman.

    Chairman LAZIO. Thank you.

    The gentlewoman from New York.

    Mrs. KELLY. Thank you, Mr. Chairman. I want to thank both of you for agreeing to hold the hearing, because it is a terribly important issue that we are dealing with here. I am pleased we have this distinguished panel of witnesses before us to discuss these events with.

    I can't help but wonder what would have been the effect of Hurricane Mitch if it had bumped into something out there and swung up and hit the United States.

    Additionally, last September, when Hurricane Georges was heading for New Orleans, it veered off. But if it had hit New Orleans, it really, as my distinguished colleague mentioned, could have devastated Louisiana. It is because of senarios like these that these are very important hearings. I am very glad that you have agreed to hold them. I want again to just say that I appreciate having all of the witnesses here today to speak to us and thank the staff for all the work that has made this hearing possible, particularly Joe Ventrone. Thank you very much Chairman Lazio for all your efforts.
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    Chairman LAZIO. I thank the gentlelady.

    My friend, the gentleman from Montana.

    Mr. HILL. Thank you, Mr. Chairman, and let me also compliment you for keeping this issue and the concern of the Congress alive on the concern that we have with regard to the potential for catastrophic events occurring, particularly in our coastal areas.

    While, as you know, I have serious concerns about the approach of H.R. 21, I do believe it is important for this subcommittee and for the Congress to work together to find some mechanism to help finance recovery from these catastrophic events.

    We are aware of the fact that since Hurricane Andrew the surplus of the insurance industry has more than doubled. It is estimated that the industry today has more than over $180 billion worth of surplus that is not being put to constructive use. Yet we can't seem to find a mechanism to get that surplus put to the effect of dealing with catastrophic risks.

    I will be anxious to hear from our panel members today in terms of how we can get the insurance industry itself to put more of its capital at risk to help us address this problem. Again thank you, Mr. Chairman, for holding this hearing.

    Chairman LAZIO. I thank the gentlemen.

    If there are no other opening statements, I would like to move down to our panel, again an outstanding panel. I am just going to provide the introductions, beginning with Dr. Gray.
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    It is wonderful to see you again. Dr. Gray has testified once before this subcommittee in a field hearing down in Florida. He has studied the global aspects of tropical cyclones for more than 35 years. Professor Gray joined the Department of Atmospheric Science at Colorado State University in 1961 and has received numerous awards, including the Man of Science Award by the Colorado Chapter of Achievement Award, College Scientists, as well as the Neil Frank Award at the National Hurricane Conference for, ''pioneering research into long-range hurricane forecasting.''

    Dr. Gray is again a good friend of this subcommittee and returns to update his testimony provided to the subcommittee last Congress. I want to thank you and welcome you, Dr. Gray.


    Dr. GRAY. Thank you very much, Mr. Chairman. I am very happy to come and present information to you on the prospects of increased hurricane damage for 1999 coming up and for the next two or three decades as best we can tell.

    I have been performing research in the hurricane business for a long time.

    I live in Colorado. And people say, ''Well, what are you doing in Colorado?'' Well, we study global storms. There are about 80 of these tropical storms around the globe every year, of which the Atlantic Basin has about 12 percent or so. So I am closer to many of those storms than I would be if I was on the East Coast. We can follow things very well there.
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    I have been issuing seasonal hurricane forecasts since 1984. And we have been studying these storms long and hard. There are surprising precursor climate signals for seasonal hurricane activity. I would never have thought 20, 25 years ago that you could look at the global ocean and atmospheric circulation patterns and be able to deduce 3, 6, 9, even 12 months before the season whether the prospects for this season, for the coming season were going to be higher or lower than normal.

    Well, you can do that with some skill. These storms, particularly the intense ones, the major hurricanes, are a product of not just the Atlantic Basin being favorable, but the whole global circulation and the ocean patterns functioning in a certain way.

    Our research is showing that we have had a great downturn in major U.S. landfalling hurricanes of Saffir/Simpson Category 3, 4, 5, the ones with the maximum winds of more than 110 miles per hour. In the 25-year period of 1970 through 1994, we had an especially large downturn. Only a few struck Florida and the East Coast. The Gulf Coast didn't show so much change.

    But now we appear to be entering a new climate regime where we expect to see many more major hurricanes along the U.S. East Coast. This new era started between 1994 and 1995. The last four years have been the most active consecutive four years of hurricane activity on record. We have had 53 named storms, 33 hurricanes, and 15 major storms, and we have had 36 major storm days. A major huricane day is obtained when for four or six hour periods a hurricane is measured or estimated to have maximum sustained winds more than 110 miles per hour.

    I and a few of my colleagues, R. Pielke, Jr. and C. Landsea, have been working to normalize U.S. hurricane-spawned damage over the last 100 years. Damage has been normalized by changes in population, inflation, and wealth per capita.
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    When you do that, you come up that the major storms, of which we have had 73 strike the U.S. in the last 100 years, do about 85 percent of the damage. Now, of course, some weaker storms do a whole lot of damage, and some strong winds don't do so much. It depends a lot on where they strike and so on.

    But nevertheless, this high percent of damage that the major storms do has to be taken into account because that is where the big changes are going to come forth.

    The change in global climate signals effect the most intense hurricanes more than the weaker systems. If you look just at Category 4 or 5 hurricanes, there has only been 18 to hit the U.S. in the last 100 years. These most intense cyclones do about roughly 64 percent or so of the damage that a Category 1 does. A Category 3 does about 16 times. A Category 2 about 4 times. There is thus a great progressive scale up damage ratio for the most intense hurricanes.

    Now, if we are going to see a return of more Category 3, 4, 5 hurricanes in the next two or three decades, we are going to see hurricane damage like we have never previously seen it, not so much that we will see more storms than we had during the active decades of the 1940's, 1950's and early 1960's, but that there is now so much in harm's way. There has been an explosive buildup of people and property values along the Southeast Coast in the last 30 years. We are going to see unprecedented levels of hurricane destruction in the coming years.

    We find that about 10 of the most destructive hurricanes of the last century caused about 60 percent of all hurricane damage. A hurricane comes into a vulnerable area about once every ten years. When a major storm strikes a very vulnerable place, it is possible that we are going to see economic losses of up to $50 billion, $75 billion, or even $100 billion.
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    Chairman LAZIO. If I can interrupt you, all the statements prepared will be incorporated into the record by unanimous consent. Without objection, it is so ordered.

    Dr. GRAY. There appears to be little realization by the U.S. Government or the general public of the magnitude of the future hurricane-related problems which our country faces. We all hear of global warming and climate change. There is so much research and effort going on in that field. But global warming, even if a realistic problem, is a much longer term problem than landfalling hurricanes. The hurricane problem is with us now. We are going to have to face up to it in the next few years and decades.

    This hearing about the problems of insurance availability in the coastal markets is quite worthwhile and much needed when considering an indication of the coming hurricane troubles we are going to have. If consumers are not adequately insured against storms, the consequences could be enormous for the U.S. taxpayers.

    I should add that just as Congress and the Federal Government have not yet fully addressed the issue of the insurance in hurricane-prone areas, it has also done very little in regard to crucially needed research on the impact of natural global climate variations and hurricane activity. The changes I am discussing are natural ones.

    If you look at the historical records, you see that the North Atlantic temperatures have fluctuated back and forth on multi-decaded time periods for thousands of years. Such North Atlantic temperature changes are correlated with decadal variations in U.S. hurricane landfall.
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    So I think I will stop. Thank you for inviting me to make this input.

    Chairman LAZIO. Thank you very much, Dr. Gray, once again.

    The next testimony we will hear is from W. Cloyce Anders. I am grateful that he has agreed to testify here. He is President of Fire and Rescue Insurance Services, Incorporated of North Carolina. He has been involved in the property and casualty insurance business since 1966 and is currently a member of the Executive Committee of the Independent Insurance Agents of America.

    And I want to also compliment that advocacy association for their constructive help with this subcommittee and with many pieces of legislation.

    Mr. Anders, welcome.


    Mr. ANDERS. Thank you. My name is Cloyce Anders. I have been an independent insurance agent and broker in North Carolina since 1966. I am here today to report on the condition of homeowners' insurance markets in my State, and I can sum it up fairly quickly.

    We have a facility in North Carolina for homeowners who are unable to obtain traditional homeowners' insurance coverage called the North Carolina Insurance Underwriting Association. It is a market of last resort. In the last two years, this facility has grown 34 percent. That is the fastest rate that it has ever grown.
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    Demand is very great and the association can no longer keep up with the work demands based on the number of applications that they are currently getting. As a matter of fact, they just changed last week to where they have delayed the opening of their phones until 10:30 a.m. so they can get the first 2 1/2 hours just to process the previous day's applications.

    The NCIU is not a good place to be if you are a homeowner, but really there are no other alternatives in North Carolina. Compared to the traditional markets, the coverage in the pool is of a substandard nature. The deductibles are higher. The premiums cost much more. And the service, because of their inadequate staffing, after a claim such as Bertha and Fran that we had in 1996, really leaves a lot to be desired. I would shudder to think what would happen if we really had a major event in North Carolina.

    Insurance companies that have done business in North Carolina for decades are no longer willing to write windstorm coverage to meet the existing demands. The business they refuse to write goes into the pool. This concentrates exposures in a facility that never was designed to handle such large exposures.

    Theoretically after a major storm, all the companies in the State would be assessed their fair level based on the amount of coverage that they write in our State.

    The fear is that, when the assessments are rendered against these companies, that many of them will not be able to pay their fair share. And of course you would have a domino effect at that particular time. But it creates a vicious cycle that not only affects our coastal areas, but it affects our entire State because it is a disincentive for companies to grow their business. The more business they write in the State, the more exposure they have to the coastal effects, even though they choose not to write business in the coastal regions. So many of them have found the best thing to do is leave North Carolina, go somewhere else and do business, which of course does not bode well for our citizens.
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    My colleagues in Louisiana, South Carolina, Mississippi, Alabama, New Jersey, and Texas report similar problems. And as you may know, the problems were so severe in Florida, California, and Hawaii that intervention by State legislatures was required.

    Now, some have said it is not a condition that is limited to beach communities and the affluent. To the contrary, in North Carolina, many insurance companies will not write hurricane coverage and others will not write any property coverage east of Interstate 95. Now I can tell you that Interstate 95 extends inland in many cases 100 to 150 miles, and obviously that is a long way from the beach.

    The vast bulk of the applications come from middle-class families that live up to an hour's drive from our coast. Is it simply that insurance rates are too low? Well, that is not what companies I represent tell me. Rates in North Carolina go up every year. The truth is that most of the insurers I know will not write the business regardless of the price. I think there are plenty of examples of that in our State.

    They tell me that the losses that will be generated by a worst-case storm are simply too large to manage. As one ranking official with a major insurance company said to me, ''We are not willing to bet the company by insuring large risk in the coastal regions.''

    A good friend of mine who is an agent in North Carolina in Morehead City called me last week and was telling me about the staff meeting that he had with his people, giving a report of the companies that they represent.

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    One company in North Carolina which has been a fixture for many years said they will no longer write wind coverage in any of the 18 coastal counties. Another company will exclude wind coverage and will not write any property within 5 miles of the coast, and no frame construction within 15 miles of the coast. And another large national company, rather than having the courage to stand up and say, ''We don't want it at all,'' have increased their prices to the point no one will buy from them, so that is their reason to get out of the market.

    One company that my agency represented since 1908, recently came to us and said, ''We want to reduce our coastal exposure. We are going to reduce your commissions on homeowners that you have been getting in the amount of 20 percent to 10 percent. If over the next year you reduce our write-ins by 50 percent, we will add back half of the commissions we have taken away.''

    We accommodated them. As a matter of fact, we moved the entire book to another company. And we were one of the fortunate ones. They came back about a year-and-a-half later in the commercial and the personal order that we were writing for them. They made a determination that they would pull completely out of the eastern corridor of our State. The reason that they gave was a lack of growth in personal lines. You know, it just sometimes doesn't make any sense.

    Our markets were jittery after Hugo in 1989 and Andrew in 1992. Bertha and Fran in 1996 threw us into a panic. Hurricane Mitch, which was mentioned before, it didn't strike us, but it sure has caused us some problems.

    Private reinsurers in capital markets are not up to the job, at least now. If they were, North Carolina would not have the problems it does. I have been told privately by insurance companies I represent that private reinsurance is too costly if they concentrate any risk in the coastal regions of North Carolina. They certainly have no reason to mislead me.
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    It does not appear that changing tax laws will improve the situation either. The small sums that can be set aside when compared to the potential losses from a major disaster just will not take care of the problem.

    Setting aside 5 percent of the homeowner premium in order to save about 1 1/2 percent in taxes will not provide the necessary backstop, and it is almost like putting a Band-Aid on your thumb when your foot hurts.

    We need to find a way to manage the worst-case risk, and that is why I am supporting H.R. 21. Under H.R. 21, I believe homeowners win. So do the insurance workplace and marketplace. I think the biggest winner of all will be the U.S. taxpayer.

    I have been one of the people in the affected areas when FEMA had been taking care of people that do not have the funds to do so. So I think, in the long run, the U.S. taxpayer will be the major winner.

    Instead of waiting until it is too late, let us deal with the problem while there is a cost effective and efficient means to do so. It will reduce the growth in programs like the NCIU, which was never intended to service the needs of so many. It will acknowledge that sooner or later somewhere in the United States we can be faced with the kind of natural catastrophe which cannot be fixed with the kind of ad hoc response that characterizes our current efforts.

    Mr. Chairman, I thank you and the subcommittee very much.
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    Chairman LAZIO. I want to thank you very much, Mr. Anders. We have a vote on. We are down to about seven minutes. I am going to call this hearing in recess. We should return back right after the vote. I am going to try to call it back about 20 minutes after the hour. Until then, the hearing is in recess.


    Chairman LAZIO. This hearing shall come to order.

    Before the last recess we heard the testimony of Dr. Gray and Mr. Anders, and now I would like to turn to Roger Singer.

    Mr. Singer is the Senior Vice President and General Counsel for the CGU Insurance Companies and has served as Commissioner of Insurance for the Commonwealth of Massachusetts from 1987 to 1989. He is also a continuing consultant to the United States Department of Commerce and Transportation on insurance and antitrust matters.

    I would like to welcome you, Mr. Commissioner. Thank you for your testimony. And, again, I remind all the witnesses that their written testimony will be included in the record. Without further ado, I recognize you.

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    Mr. SINGER. Thank you, Mr. Chairman and Members of the subcommittee. Thank you very much for asking me to testify today. My name is, as the Chairman said, is Roger Singer. I am the General Counsel and Senior Vice President of the CGU Insurance Companies, headquartered in Boston, Massachusetts.

    The issue before you today, natural disaster and how to provide homeowners' insurance for it, is a very important one. Serious storms and earthquakes are going to happen, and people will have to use those funds to rebuild their homes.

    How we spread that risk, how we plan in advance to finance that is extremely important, and it is critical, not only for the public, but for the insurance industry.

    The bill before you, H.R. 21, addresses these issues in several ways. I believe that the concept of creating a Federal reinsurer of last resort for the largest catastrophes is a sound one. However, it is no easy task to design a system that works properly.

    In that respect, I have three issues I would like to focus on today. First issue is the level, the trigger for Federal financial involvement. The second is the bill's interaction with State funds. And the third issue is the issue of mitigation of loss.

    First: trigger. Trigger refers to the total of insurance claims that have to occur in a particular event before the Federal reinsurance pays out or becomes available to insurers or State funds.

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    The comment I want to make and put the most emphasis on today is that we believe that the trigger in H.R. 21, the greater of $2 billion, or 1-in-100-year event, or the claims-paying capacity of a State fund, is simply much too low. And we believe it is too low because events of that size can be handled, can be paid for by the private insurance industry.

    The best way to demonstrate this is to look at the capital in the industry. In 1991, before the first of these major events in this decade, Hurricane Andrew, the policyholders' surplus, and that is the net worth or the cushion, the amount of money in the industry in addition to what that year's policyholders have paid, that number was $159 billion in 1991. And as has been mentioned before, by 1998, that number had grown to $332 billion, more than doubled.

    Now, if Hurricane Andrew, the worst catastrophe in history, which cost in today's dollars $18.5 billion, were to happen three times in 1999, that $56 billion cost would reduce industry surplus to $276 billion, still almost $100 billion more than it was in 1991. I think this number has to be contrasted with the triggers in this bill. The $2 billion is obviously, I believe, much too low.

    When we look at what the predictors have predicted for a 1-in-100-year event, we see a California earthquake of $53 billion, again this is a 1-in-100-year event insurance losses, and of course it is all losses. Residential losses, the trigger here would be lower. We look at Florida. $32 billion to $39 billion are the two numbers that I have seen.

    Once you get past those two States, and the bill refers to six regions in the country, there is no region that could come close to those numbers. The estimate for a 1-in-100-year event in the Pacific Northwest, an earthquake centered somewhere near Seattle or Portland, is $6.9 billion. You get to other States, the numbers become much smaller. Of course that becomes relevant for the State fund numbers. The projection for small coastal States is under $1 billion dollars.
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    Another point I would like to make is the insurance industry is much more equipped today to deal with this and much more sensitive to catastrophic losses than it was before Hurricane Andrew. An entire industry of computer modeling firms has developed since that event, in which they can put—they are very data intensive models—they can predict catastrophe loss for individual structures based on where they are, what has happened in the past, how the building is built and so forth. Now obviously, they are not perfect. The point is that they do exist now. They are used heavily. Rating agencies look at them. Reinsurers look at them. And companies basically, to finance themselves properly, have to take account of that risk.

    The second issue, State funds, that is addressed in the bill we believe would not be a good public policy result the way it is structured now. Simply put, the availability of insurance for State funds will cause the formation of more. And as the Chairman has mentioned, three were formed in California, Florida and Hawaii.

    Other States have looked at this issue recently, this year. New York, Louisiana, Arkansas all have recently decided that there was no need for State funds and have determined not to establish State funds.

    That calculus changes a bit if the Federal scheme makes Federal reinsurance available to those funds. We think, and as Mr. Anders has testified, State funds that exist sometimes inhibit private markets. And we would feel that that would be a detriment to development of private markets and more of the kind of insurance that would be available would be useful to the public.

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    Finally, on mitigation, I just want to briefly say that this whole issue of making insurance available has very little to do with preventing loss. The loss is going to occur whatever we do unless we engage in some form of mitigation. Building codes, land use planning, things like that are very important. Twenty States have no statewide building code. Eight of those that do—and many of these are coastal States—exempt single and two-family homes from those codes.

    Just in concluding, I would like to thank the subcommittee for working so hard on this issue for so long. This is a difficult, frustratingly complex issue. It is no easy task. However, we believe that creation of Federal reinsurance contracts with low triggers, replicating coverage that is available in the private market, whether for private insurers or State funds is unnecessary. And following that, we think that encouragement of more State funds would inhibit the private market and allow less private insurance to be sold.

    Again, I want to thank you for inviting me here today.

    Chairman LAZIO. Thank you very much.

    The next testimony we will hear is from Arthur Sterbcow. Mr. Sterbcow is the President of Latter and Blum, Incorporated, overseeing 23 real estate branch offices and more than 800 agents throughout New Orleans, Baton Rouge, and the Mississippi Gulf Coast.

    Most recently Mr. Sterbcow was appointed by Louisiana Governor Mike Foster to the State Property Insurance Task Force to develop recommendations for the expansion of insurance availability and coverage to consumers.
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    I want to welcome you, Mr. Sterbcow, for coming here today and, as well, thank you for your prepared testimony, which again will be included in the record. And you are now recognized.


    Mr. STERBCOW. Thank you very much. It is an honor to be here. I am a little bit overwhelmed. I am not exactly sure how I got here.

    Mr. FRANK. That is true about half the Members as well, so don't worry about it.

    Mr. STERBCOW. I represent the National Association of Realtors, and I guess I have been asked to come here and give our point of view primarily because of my background, having been appointed to the Governor's Task Force on Property Insurance. And the reason I got appointed to that is because I complained to our local association about property taxes—excuse me, about property insurance, it was taxes too, but property insurance primarily.

    We also run an insurance company, and we cannot get enough policies to sell in our State, in Louisiana, or in Mississippi. The availability of insurance is bad, and it is not getting any better. As a matter of record, in 1990, there were 148 insurers in the State of Louisiana. We are now down to 88 in 1997. I am sure the number is probably lower now, and we don't see anything to change that.
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    I got invited to the Property Insurance Task Force. I went to the insurance commissioner's office. And I was delighted to hear that Congressman Hill was a former insurance commissioner. I sympathize totally. You know, coming from New Orleans, it is a big food town, and we have got great food, but, you know, you don't want to go into some of the restaurants. It is more than you care to know about. In some of the kitchens of those restaurants, it is not very pretty.

    That is the way I feel in the insurance business. I really don't want to go into the kitchen and know the dynamics of it, but I have been invited, and now I have seen it. I have got to tell you, I have never been more afraid of anything—ever.

    I don't think anyone, certainly not me, certainly not my real estate agents, certainly not the people in my State realize the danger that is staring us in the face. We are talking about a $15 billion disaster in Florida. You know, suppose we had had a $70 billion earthquake in California at the same time, $100 billion earthquake in the Midwest. Folks, we wouldn't be here.

    According to everything I have read, and through our research that has been provided to us, if that hurricane had moved 40 miles up the coast, you would be talking about a $50 billion loss if it had hit Miami. And you would have had about a 36 percent insolvency rate among insurers in the United States. And that is with only a $50 billion loss. Can you imagine a $75 billion or $100 billion loss?

    Clearly something has to change. Clearly the Federal Government after a catastrophe has a lot of expenses that are outside reinsurance and insurance company expenses. The Federal Government puts out a lot of money after these debacles. That is not going to change.
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    I think Congressman Lazio's recommendation is a good one. I think it is a great one. I don't think it is going to fix everything, but it is certainly a vital and important part of it.

    What the actual trigger mechanism is, what that level is, I think that is a subject for better minds than mine. But I can tell you the existing situation is not going to work. The Cat funds—we looked at creating a Cat fund in the State of Louisiana. And the Cat fund—and this gentleman over to my left was absolutely on target—the Cat funds were created during a period of time when everybody pulled out of the market and the State governments had to come up with something.

    Since then, the market has found its equilibrium. We have capacity. The problem is that it is extremely expensive to buy that capacity. And reinsurers are not putting those dollars into disaster-prone areas if they don't have to. And there has got to be more pigskin in the game for these reinsurers to be in these markets. And I think the Federal Government has got to do something to make it palatable for these people to want to do business in our State.

    And I don't see anything that is adverse to taxpayers. I don't perceive this to be a Government intervention issue. I think there are times when the Federal Government needs to do things that private industry cannot do for themselves. And clearly, if they could, they would. They are not, and they won't.

    And I don't know of any other way to make the system work except for House Bill 21, and some other things which I think Mr. Singer is directly on target on. The National Association of Realtors has not come out at this point with position papers on building codes and on some other issues, but they are all part and parcel to the solution. There is not one thing that is going to work; it is going to be a combination of things that will work to change the system.
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    My only recommendation is please keep an open mind. I am not a Government interventionist at all. I don't believe in that. I think private enterprise works. I think capitalism is what has made us here, and I would think that this bill is consistent with that. I think it is a move to foster capitalism and to encourage these companies to do things they couldn't normally do. Thank you.

    Chairman LAZIO. Thank you very much.

    Let me begin if I can just by posing some questions to Dr. Gray.

    You had mentioned, Dr. Gray, in your testimony that you thought that we were at the beginning point of a period of accelerated hurricane activity for a particular period of time. Two questions: Can you predict, using the empirical data that you have, how long a period of time that we may see that accelerated activity, number one? And number two, is there any way, given the current state of technology and the data that you have, to predict the possibility or the probability of a major natural disaster?

    Dr. GRAY. The first answer is how long will this go on? It is hard to tell. But if you use the historical and geological evidence, this more active period can perhaps go for 20-, 30-, 40-years, something like that. I don't think we have any reason to think that this won't happen. I don't think humankind is disrupting the climate enough that the next 30-40 years won't be dictated by the natural changes.

    As to them hitting big metropolitan areas, I and some of my colleagues are working on probabilities of that. Yes, there are specific areas, the Gold Coast of Southeast Florida, New Orleans, the Houston area, Long Island and New England are especially vulnerable.
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    Chairman LAZIO. Stop right there.

    Dr. GRAY. You can only give a probability. The chance of a major storm hitting a big metropolitan area is always going to be very small even in very active periods.

    Chairman LAZIO. But if a major metropolitan area is hit, I guess the concern is here that it could be a $50 billion, $75 billion, $100 billion natural disaster. One of the things I am reminded of is that, in the aftermath of the Northridge earthquake in 1994, 95 percent of the homeowner insurance market disappeared virtually overnight. The companies withdrew.

    And that is what we are trying to address right now proactively, not to wait for the inevitable disaster to hit, but to prepare ourselves in a prudent way by cumulating private premiums for that inevitable natural disaster. What happens when that marketplace disappears, when insurance companies have stopped writing because the exposure is too much? People's most important investment, their homes, are no longer protected. People can't sell their homes because who wants to buy a home that is not insured?

    The tax base is affected. The schools are affected. The commerce in the area is affected. It can lead to a complete collapse of the economy, not to mention destroy the peace of mind of anybody as they think forward if they are living in the area that is potentially prone to natural disaster. It is not just coastal areas. It is also areas near fault lines, earthquake fault lines.
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    I would like to address a couple of questions, if I can, to Mr. Singer, because it is not just a matter of how much surplus there is among the insurance industry. My understanding is, if I was to take your number, which I think you were citing somewhere around $300 billion, only 10 percent of that really is a surplus that is attributable to residential exposure, which is what we are focusing on right now.

    As you know, H.R. 21 does not address commercial exposure. So two questions I have of you are: is that correct that when you cite a number that large, it is potentially misleading because only a small percentage of that actually covers residential? And the second thing is: isn't it more relevant to focus on which companies actually write in areas that are more prone to natural disaster? You may have surpluses in areas in which there is very little possibility of a natural disaster.

    But, you know, I am looking at some of the numbers from—and you can correct me if I am wrong—from A.M. Best, which is I think the recognized compiler of insurance data. It says, for example, your involvement share in the Florida marketplace is less than four-tenths of 1 percent; in California, about 1.3 percent; in Louisiana, less than 1.4 percent.

    That may be a prudent investment, but in fact, if all companies wrote like that or didn't write at all, we would have very significant liquidity problems in some of the areas that are most prone to natural disaster; and that is what I am focusing on.

    So I would like you to address that out of fairness to you, if I can.
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    Mr. SINGER. Thank you, Mr. Chairman. You have asked a number of questions. I will try to answer them as you asked them. First of all, there is no allocation of surplus by line or by geography. When we write an insurance contract, we agree to pay that contract with every last penny of surplus we have. We don't allocate within the surplus between different lines. So our entire surplus is available to every policyholder, whatever line, until it is all paid out. We do allocate in the current year's premium, excuse me, between lines when we make the rates, but the surplus is really the cushion after that money is used up.

    Second, as to the numbers you cited as to my company's involvement. The numbers you cited for California—we are largely an East Coast company—are actually a pretty big number for us. That is, we are not much more than a couple percent of the market nationally. It is $50 million worth of homeowners'. So for us, we are pretty involved there. Of course in a State the size of California, that is really a drop in the bucket, and I recognize that, because it is a very big part of the economy. But for a Boston-based company we feel we have relatively high involvement there.

    Louisiana—we think we have reasonable involvement. Again, those numbers match our national market share fairly closely.

    The third State you referenced, Florida, we have historically not been in Florida. And we have looked at whether we can write business. We have recently looked at that in Florida. And our problem is the State fund—the Florida Property and Casualty Joint Underwriting Association in Florida. Mr. Anders referred to this. We have a concern that what business we write there—and we would have to write a lot of new business, because we really just haven't been there, we haven't historically had sales and distribution there—that this business irrespective of its loss propensities would pick up some share of that pool.
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    Now I think things are improving in Florida. The size, the number of policies, the number of homes insured by the Florida JUA that I just referred to, it has reduced. It was 3 times as many in 1996 as it has recently been indicated it was in April of this year.

    So I think it is improving there. But our company, because of the pools and the fear of assessments and the finances of assessments, really was unable to go there and participate in that market. But that is what we are in the business to do, to write insurance, and we wish to write it.

    Chairman LAZIO. I understand. That reduction by the way is a result of those policies being transferred into the Florida Windstorm Association, which is even more overexposed to a hurricane.

    Mr. SINGER. If I could, Mr. Chairman, in the Northeast where we are a little more concentrated, we have taken advantage of recent markets. For example, on Long Island, I pulled the numbers for our Jericho, Long Island office. In 1991, we wrote 17,000 homes on Long Island. At the end of 1998, we wrote 27,000 homes. Now that is not a remarkable increase, but for us, that is a pretty big move for us to increase the number of homes in a wind-exposed area by 60 percent during this period.

    Chairman LAZIO. Thank you.

    Mr. FRANK. The Chairman might be interested in your Buffalo figures, too, if you have them later.
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    First, to Mr. Sterbcow, let me say I understand your position. It is a reasonable one except for one point. This is not free enterprise. Yes, as private sector people, you are entitled to say this is a case where the Federal Government should intervene. But this is not capitalism. You don't find this in Milton Friedman. This is seashore socialism.

    Now it may be that, given the nature of the case, we need to do a little seashore socialism; but if it was capitalism, there wouldn't be a Federal Government entity here. I read the bill. It is subject to appropriation. We are going to have to appropriate Federal dollars for this. This could increase the national debt. I mean, it says here that the money in this fund will be considered part of the public debt of the United States.

    Now that doesn't mean I am against it. I do, however, have to say frankly to realtors, home builders, others who come in here, that is perfectly reasonable, but it is just not consistent with the position of nonintervention, unalloyed free enterprise.

    A couple of questions. First to Mr. Singer. When you talked about the ''trigger,'' and one of the issues raised to me, because I am generally in favor of doing something, the question, though, is one of a question of regional impact. As I understand it, what you are saying is, given that trigger, the trigger says, and I didn't realize this until I read this again, there is a different trigger for different regions. The bill divides us into regions. So that the trigger is either $2 billion, or what the 100-year cost would be for that particular State.

    And do I interpret correctly that what you are saying is that, given a trigger of either $2 billion or a 100-year event, only some regions are likely to ever make the trigger and some aren't? Is that the point?
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    Mr. SINGER. My point is that, clearly, an earthquake event in Southern California or hurricane in Florida are very significant events. And as I have testified, I think the industry today could handle one of those. Other regions and other States don't even approach the capacity of private industry.

    Mr. FRANK. So what you are saying is, in effect, California and Florida would be discriminated against because—what is the differential effect of the regional distinction? In other words, are you likely to reach the trigger in some regions than others? The way this works, as I understand it, it is either $2 billion or the damage of a 100-year event. Now if the 100-year event is going to be much more expensive in California or Florida, then they have a higher trigger to reach. Isn't that true?

    Mr. SINGER. That is correct.

    Chairman LAZIO. So is there any regional discrimination—that means it takes a lower level of damage to trigger this in New York than it would in California? Is that correct under the bill?

    Mr. SINGER. That is correct. I don't know if discrimination is the proper word, but it is the trouble I have trying to conceptualize how a system like this would work fairly.

    Mr. FRANK. Let me raise this question, and I looked at some language on page 11 here, Section 6. It does say, on page 10, here are the requirements. Actually what bothers me to some extent is—well, let me go back even a further step. This is relevant to Mr. Anders.
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    Insurance has traditionally—not traditionally—it has historically been the most important industry in the American market exempt from Federal regulation, going back to the McCarren-Ferguson Act. And it does seem to me to make a pretty good jump here from being one of the least regulated to being one that is going to be significantly assisted. That doesn't bother me, except I want to make sure that we have appropriate regulations that come along with the assistance. It is a problem. You will hear from environmentalists and others and people who are concerned about the fiscal impact.

    How do we avoid this bill encouraging people to build homes where they shouldn't build them because we are making insurance more easily available? I am much more inclined to make insurance available to people who already have buildings than I am to put into place a scheme that could equally protect people who build in the future.

    And my question is, would it be feasible as part of this bill to say that no building would be covered under this—or eligible for a policy under this—if it were newly constructed in an area where prudence said it was too exposed and shouldn't be constructed? I wonder, Mr. Anders, what you would think of that?

    Mr. ANDERS. Well, if we were talking about a flood policy, then I could answer that. But wind, you know wind doesn't care where you build. While we have building codes in our State, we found that the damage is not on the barrier islands from the wind that comes from the water, which of course is a total Federal program. As far as the wind coverage and where we need it, January 1, 1998, we had to expand our wind pool inland 18 counties. We didn't have a problem with the beach.
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    Mr. FRANK. So you are saying basically it is not sufficiently predictable to do that for hurricane as it is for flood?

    Mr. ANDERS. Were it not for trees, Fran wouldn't have been that big a thing. Our building codes worked.

    Mr. FRANK. It was trees that caused the problem?

    Mr. ANDERS. When you get an oak tree like this coming down on your home, believe me, your home is going to go.

    Mr. FRANK. I don't suppose we can compel you to sue God.

    Mr. ANDERS. You are right.

    Mr. FRANK. Let me ask Mr. Singer, again. You say, is there a trigger level of which you think this would be reasonable or needed?

    Mr. SINGER. I think a system could be designed, but my problem is similar to the issue you have raised. I don't know, given the regional differences, given the fact that an industry surplus will increase and decrease, and our notion of storms and knowledge of storms will change, I don't think you can pick a number and decide that that is the appropriate number.

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    I do think that the big event that we occasionally talk about, once we go north of, I don't know whether it is $75 billion or $100 billion, you really threaten the private industry. And there is a role for Federal backstop at that point.

    Mr. FRANK. The one thing about the surplus is, in an ideal world, I guess that is true, we can tell them that it would be better to use the surplus. But I don't know the mechanism through which that happens. And given the current mix of regulation, nonregulation, State control, and so forth, is there any mechanism—suppose we don't pass this and the insurance companies say, ''You are darn right we have a surplus, and we like having a surplus, this is a very nice thing to have a surplus, and we are not putting it at risk, so we are not insuring your house.'' Then that is a problem for the homeowner.

    Is there some way that you can think of to deal with that short of this? Because that is a problem. It is one thing to say they have got a surplus, but it is their surplus. And we cannot compel you or anybody else to write business. You are not suggesting that we can say to somebody, ''Hey, you have got a surplus; write some business you are going to take a beating on because the surplus will take care of it.'' My guess is, you would think that is not an appropriate function of mine to tell you that.

    So I am not sure that the surplus' existence is as much of an answer as you suggest. If it is, you have to explain to me what is the connection. How do we make sure that the surplus is in fact available to get some of these policies written?

    Mr. SINGER. I guess my point would be—and I don't have the solution, and I wish I did. And I think a lot of more intelligent people will have to think about this a lot. My point is merely that the capital is available. Insurance companies want to write business. And I have concerns.
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    Mr. FRANK. Excuse me. They want to write profitable business. That is not stupid. That is why they call it ''business.'' Now, the problem is—let me put it this way, the problem is, we have reason to think that a certain amount of business will be unprofitable. That is why it is not capitalism. Capitalism is letting the people write the profitable business they want to write.

    What we have now is a question as to whether or not there is business that we think is socially desirable to be written, but isn't profitable. And that is the question, as to whether or not it is then an appropriate Federal Government function to step in where the private market won't go because it doesn't make—it is not likely enough to be profitable. That makes the surplus less relevant it seems to me.

    Mr. SINGER. Well, profitability is related to rates. I mean, I think any insurance company would write any risk at adequate rates. That is a difficult issue in this area, and there probably are some areas where it will be extremely difficult to charge homeowners an adequate rate.

    But I think what does happen is that markets adjust. The private market competes. For example, in California, there are private companies now that are writing only earthquake coverage. They are competing for that business. They want to get something that—they want to take a risk that——

    Mr. FRANK. What kind of premiums? What kind of income would you need to pay that premium? I am sure—I mean, are they writing it for, you know, a fairly small number of very rich people, or is this sort of something that would be generally available?
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    Mr. SINGER. I don't believe so. I don't believe that it is only written for wealthier homes. The private market will certainly seek out places that can make a profit and the principle of insurance is spreading risk amongst as many insureds as possible. I don't know what the income distribution, or the people that buy earthquake insurance in California is, though. I have to admit that.

    Mr. FRANK. Thank you, Mr. Chairman.

    Chairman LAZIO. I thank the gentleman.

    The gentleman from Ohio.

    Mr. NEY. Thank you, Mr. Chairman.

    The question that I have is for Mr. Anders. Do you have any understanding of the capacity of the reinsurance industry to absorb catastrophic losses?

    Mr. ANDERS. I see the numbers, and of course the surplus in the industry is up and down like a yo-yo. If there is a correction in the stock market tomorrow, it is down. A change in the Reserve practices, it is down.

    My concern is when you talk globally, you talk $330 billion globally, let's put one company, because the industry as a whole is not responding in the affected areas, to the contrary, they are running like scared cats, when you leave the people in that area, those are the people that are going to have to pay the claims. What are their surpluses? What amount do they have, $10 million, $20 million, $100 million? I don't know. We can't look at one hurricane that comes in between Wilmington and Nags Head and think we are going to have all the surplus globally in the property and casualty industry to respond to those claims. It is not going to happen.
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    But it may go after part of that surplus, because as the companies in that area, if they can't afford to take their due, then we do have funds throughout the country called guaranty funds which may create a domino effect and have serious impact on the economic health of our industry. So I don't think that you can look at it on a global basis.

    Mr. NEY. So the reinsurance industry could handle it, but at a certain cost?

    Mr. ANDERS. The reinsurance industry has not stepped up to the plate. As the head of an insurance company said, ''If I write coverage in this area, a certain percentage of my company's coverage in this area, my cost of reinsurance goes up so much, I cannot charge enough to make a profit. If I do not write in this area, my reinsurance costs are so far down, now I can make a reasonable profit.'' So the only business decision that they can make is not write in that area and absorb the increased cost of their reinsurance. That is what I am told. I am an agent. I have never purchased reinsurance in my life.

    Mr. NEY. Commissioner Singer has testified that the deductible level for a 100-year storm is too low as is looked at in this proposal. What do you think about the Federal program only covering events that will cover every 250 years?

    Mr. SINGER. If I understand the question you are asking, would a——

    Mr. NEY. You had commented about the proposal for the 100-year event, and I wonder first what Mr. Anders thought about the 250?
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    Mr. ANDERS. With the events that we have in the history of our country, it is hard to believe that we have not had an event since pre-Civil War that would not have qualified.

    The fact of the matter is that there is a shortage of private markets. That is an undisputable fact, and it is getting worse. As you look at the fund in North Carolina, it has grown 34 percent in the last year.

    So if you look at any area that has an affected area, the availability of the private market is decreasing, and that is because of the unwillingness of the companies to step up and write in these areas. I don't control their board rooms and they have to be concerned about profits or they will not be in the business, period.

    But if you create that trigger so high based on a global surplus, then what are you really accomplishing? Have you created an environment that is going to cause companies to do business in these areas? When you look today, a Cat fund for one of the major insurance companies is like $25 million. You don't think $2 to $4 million is something real for them?

    If you go to a 250-year base, if they are trying to buy 25,000 Cat limits where they attach, you start talking $2 to $4 billion, I am afraid this is going to scare them. It may sound good, but in reality you have to go back and address the problem. We have to provide markets for working people in the affected areas, and the kicking of the trigger will not do that.

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    Mr. NEY. Thank you.

    Chairman LAZIO. Ms. Hooley.

    Ms. HOOLEY. Thank you very much, Mr. Chairman.

    Mr. Singer, you talked about both the $2 billion and the 1-in-100-year event. Help me out with something. One-in-100-year event, does that mean that there is a 1 percent chance for 100 years that it is going to happen every year?

    Mr. SINGER. Yes. On the first day of every year, there is a 1 percent chance that that year that event will occur.

    Ms. HOOLEY. Do we need that also as a trigger event or do we need a dollar amount?

    Mr. SINGER. Well——

    Ms. HOOLEY. This is an either/or?

    Mr. SINGER. Well, this is the greater of in this bill. I assume, and I don't know the reason—and I don't know, but I assumed when I read the bill is that some State funds in very small States—for example, the number that I have seen for Delaware is $750 million for the 1-in-100-year event. So in fact the $2 billion in that State, if that State were to establish a State fund, would bring the level up to at least that level. I believe that is the way the bill is crafted at this time.
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    Ms. HOOLEY. And if you had to choose to put a number in there, what number would you put?

    Mr. SINGER. My concern is that a number, a simple number won't work because things change over time, both the surplus of the industry, the propensity of the storm and the regional differences. So although I wish I could answer your question more simply, I can't.

    Ms. HOOLEY. What would you use as a trigger? How would you do it?

    Mr. SINGER. I have thought a lot about that, and I don't know how to do it. If I had a suggestion, I would make it.

    Ms. HOOLEY. Thank you.

    Chairman LAZIO. Thank you.

    Mr. Hill.

    Mr. HILL. Thank you, Mr. Chairman. I hope we have another round of questions because I have a lot of questions for the panel members.

    Chairman LAZIO. What we will do, if you don't mind, there may be some questions that will be submitted in writing to the panel. The gentleman can submit the questions to the panel in writing. I want to recognize the gentleman for five minutes.
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    Mr. HILL. Mr. Sterbcow, I have some questions for you first. You served on the task force to examine whether you ought to do a Cat fund in Louisiana. H.R. 21 would create Cat funds for individual insurance companies, but the Task Force said that it found the following things. Record amounts of reinsurance are currently available to companies that provide coverage in Louisiana; that coverage is available at rates close to the pre-Andrew 1992 rates; that insurers are generally well prepared for a major loss in Louisiana; and on average, $10 billion for an insurance company with an average trigger of $3 billion per event, providing about $13 billion worth of insurance is available. Do you agree with that?

    Mr. STERBCOW. Yes. But the coverages are greatly reduced. While there was a lot of capacity and the rates were not exorbitant compared to what they had been in the past, but the exclusions were dramatically different.

    Mr. HILL. But they concluded that the industry was relatively well prepared? And it went on to make the recommendations, that a State catastrophe fund not be created at this time because one is currently not needed. The Task Force recommends that the State legislature take an active role to encourage public policies which increase private market capacity and insurers' willingness to provide coverage for large catastrophic events, including Federal tax policy changes that would allow and encourage insurers to reserve for future disasters and eliminate premature and double taxation of policyholders' catastrophic premiums that are committed to reserves for future disasters and a possible Federal backstop for catastrophic losses which exceed private market capacity. Do you agree with that recommendation?

    Mr. STERBCOW. Yes.
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    Mr. HILL. Mr. Singer, do you agree with that recommendation?

    Mr. SINGER. That a fund be created to—I am sorry, I didn't hear the last part of it, Congressman.

    Mr. HILL. That we modify Federal tax policies to allow and encourage insurers to reserve for future disasters and eliminate premature and double taxation of policyholder catastrophic premiums that are committed to reserves for future disasters, and then a possible Federal backstop for catastrophic losses that exceed the private market capacity.

    Mr. SINGER. Congressman, my company has not taken any position on tax changes, and I guess the reason for that is a tax exemption will reduce the cost of capital, reduce costs to consumers, and those are good things.

    We assume, though, that any reduction in taxes will be coupled with some offsetting increase of some other taxes, and without knowing how that would work, we don't feel we can take a position on that.

    Mr. HILL. But on a stand-alone basis, if insurance companies were allowed to build reserves for future events, do you think that would attract capital to the underwriting of insurance in catastrophic-prone areas or for catastrophic perils, aside from how that might impact other aspects of your income?

    Mr. SINGER. On a stand-alone basis, reducing taxes will increase capital and decrease the cost of capital.
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    Mr. HILL. My point is that do you believe it would encourage people to underwriting that kind of insurance by virtue of the incentive to set aside reserves for future losses, stabilizing the impact on the balance sheet and the income statement? Obviously catastrophic events would be paid out of those catastrophe reserves as well.

    Mr. SINGER. A tax change that reduced the cost of capital attributable to catastrophes would in fact encourage people.

    Mr. HILL. Dr. Gray, I have a question for you. That is, this issue of a 1-in-100-year event. A 1-in-100-year event in any locality is different than a 1-in-100-year event in the country; isn't it?

    Dr. GRAY. Certainly.

    Mr. HILL. So when we talk about writing reinsurance contracts that are triggered by a 1-in-100-year event State by State, there is much greater than a 1 percent probability that one of those events will occur in one of those States in any given year; is that correct?

    Dr. GRAY. Yes. If you pick a particular region, the 1-in-100-year event is not 1-in-100, it is 500 years or so. We are working on that. Using the last 100 years landfall data for all intensity storms, we hope in a few months to come out with something that would put risk on a probability basis. This risk however, varies from year to year and decade to decade as the global climate signals go up and down. In one year the risk of a hurricane hitting a particular location may be 1-in-100, and the next year it could be 1-in-200 and the following next year, 1-in-50 or 1-in-25.
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    Mr. HILL. And you are dealing with hurricane perils. This policy deals with earthquakes and tidal waves, all of which have a different combination of set of probabilities, don't they?

    Dr. GRAY. Yes, they all have different probabilities. I don't know that the earthquake probability can be stated in any reasonable way. The hurricane probably can be much better quantified.

    Mr. HILL. Yet we are putting the Treasury at risk for 1-in-100-year events that can't be predicted at all.

    Thank you, Dr. Gray.

    Thank you, Mr. Chairman.

    Chairman LAZIO. I thank the gentleman.

    Mr. Sherman.

    Mr. SHERMAN. Mr. Chairman, thank you for your generosity for inviting me to participate in these hearings, and thank you for your wisdom in proposing excellent legislation.

    I represent a district in the San Fernando Valley. My district probably suffered more private property damage than any other district in the country or in the State during the Northridge earthquake.
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    Mr. Singer, I know that you have indicated that you think that it is inappropriate for the Federal Government to get involved to the extent of H.R. 21, and I believe you have also in your written testimony said that the Federal Government should get involved in home construction standards. Why do you think that it is acceptable for the Federal Government to get involved in something pretty invasive in telling people how to construct homes, but not get involved in reinsurance?

    Mr. SINGER. Congressman, let me clarify my statement.

    First, I don't think that it is inappropriate at all for the Federal Government to be involved in this issue. My comment is that the way this legislation works, or some aspects and only some aspects of the way that this legislation works, now will not encourage private sector participation, which I believe is valuable.

    As I stated before, I think that for the serious earthquake in the San Fernando Valley we will have cascading failures of insurance companies and that a Federal backstop is a very valuable tool in that situation.

    Second, I hope that I have not created confusion. I do not believe that the Federal Government should get involved in what are traditionally State and local issues of how to build buildings or where to put them. I do think that is a critical issue that should be addressed, and I don't know how, on a broad base.

    Mr. SHERMAN. So you are saying that at least with regard to earthquake—and I will leave to my colleagues dealing with flood damage, as you know, it never rains in Southern California—but as to earthquakes, you see a need for Federal involvement to provide reinsurance and allow the insurance system to work, although you have some questions about H.R. 21?
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    Mr. SINGER. I feel that we—as a society, we are exposed to certain perils, and it could be hurricanes, too, although most of the numbers that I have seen suggest that the Southern California earthquake is the event that will be the most serious. I think there is a role for the Federal Government in backstopping the private sector. There may with extreme events be inability for the private sector to make good on insurance obligations. I don't feel that the way that the bill is crafted currently—or I feel that the way that the bill is crafted currently, it would involve the Federal Government well below that level of damage.

    Mr. SHERMAN. I would point out that we definitely do have a problem in Southern California. I think this bill is an effective way to deal with it. I know that my colleague from Montana has put forward the idea of some tax law change. I doubt that there would be a whole lot of support from this side of the aisle for a tremendous decrease in insurance company taxation. In fact, the president of our party every year proposes increases in insurance company taxation.

    I don't know which member of the panel can focus on this, but there is reinsurance to the CEA, the California Earthquake Authority, now, but I am told that it is at 10- to 30-times its actuarial value, and I wonder if you have any statistics on what CEA is paying or what other State reinsurance is paying on the private market for reinsurance, and how that compares to the actuarial calculation as to what risks are being absorbed by the private sellers of reinsurance?

    I don't know if anyone has expertise in that. I yield back the balance of my time.
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    Dr. GRAY. I did a study a few years ago comparing hurricane and earthquake damage, and at least in this century, I found that hurricanes, in terms of economic damage, have done 3 or 4 times more damage than earthquakes have; and in terms of people killed, about 10-to-1. In the 19th Century these ratios are larger.

    Undoubtedly there are scenarios where an earthquake can do more damage than any hurricane ever could, but it has not yet taken place. But in terms of research there is much more emphasis on the earthquake problem. The hurricane has had comparatively less research interest and support.

    Mr. SHERMAN. Thank you.

    Chairman LAZIO. The gentlewoman from New York.

    Mrs. KELLY. Thank you, Mr. Chairman.

    Dr. Gray, if Mitch was as bad a storm as we all seem to think that it was, and apparently it was, I am wondering if the staggering amount of damage that was done down in El Salvador and Honduras and Nicaragua was due to different soil conditions than a storm would encounter if it hit our coast, whether lower building codes had a role, or poor flood control policies? I am wanting to get a little more information than what you spoke of.

    Dr. GRAY. Mitch was kind of a freak storm. The damage it did occurred when it was a very weak storm, and its damage was mainly rain and the floods that resulted. It was one of those rare storms that stagnates with little motion. It hardly moved for three or four days and caused steady rain to high terrain areas which caused flash floods. Mitch was a Category 5 at one time when it was over the sea, but did little damage at that time. So you can occasionally get storms like that. Hurricane Agnes in 1972 was similar and caused something like $10 to $12 billion in flood damage in Pennsylvania and New York.
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    Mrs. KELLY. My question, sir, if you feel that the damage, part of the damage problem there was caused because of low building codes, that the building codes that required less in terms of structural soundness and/or poor flood controls that had been implemented, are there ways we can implement flood controls and utilize building codes so that if we get an Agnes or a Mitch that we are prepared?

    Dr. GRAY. Certainly. The building codes can be made better. But I must admit the trouble with Mitch is that it occurred in an area where the people are very poor. It was a mountainous rain-induced flooding, and they had just never had anything like this before. They just—in terms of our standards, could not build homes to withstand that. I don't see any way they or the U.S. Government could avoid a Mitch-type of situation. You are occasionally going to have that type of flood-induced damage. You cannot tell people in those areas to build their homes better, because there are just not enough resources in order to do that.

    Mrs. KELLY. How much money have homeowner insurance companies invested in damage in the United States in the past year?

    [No response.]

    Mrs. KELLY. Mr. Singer, I have one question for you. You commented on the trigger being too low in H.R. 21. I assume that you are aware that that the $2 billion trigger is a floor?

    Mr. SINGER. Yes.
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    Mrs. KELLY. And that the coverage cannot go below that and the trigger is allowed to be set by the Secretary of the Treasury in the bill. He must set it in such a way that it will not compete with the entire private market. I ask this because what you said made me feel that you were saying that the language in the bill was likely to displace or compete with the private insurance market. Perhaps more than one of you wants to address this question. But I am concerned about the understanding of how that would work.

    Mr. SINGER. I am aware of the language in the bill that allows the Secretary of the Treasury to change the levels in the bill that are now the greater of $2 billion or a 1-in-100-year event or the claims-paying ability of the particular State fund, whichever is greater of those three.

    My concern is that the standards by which he makes that decision are not set, and the analysis that would go into that decision is an extremely difficult one, and I don't know what the components of that analysis are, how Treasury decides from year to year when the Federal reinsurance should trigger. It is not that I don't think that it could be done, I just don't know how to do that given the fluidity of this dynamic situation.

    Mrs. KELLY. So what you are asking for is the bill to be more specific to the Secretary of the Treasury?

    Mr. SINGER. I think a different mechanism other than either a particular number or a future decision has to be crafted. And as I have said before, I don't know how to craft a bill that works that way. I wish I did.
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    Mrs. KELLY. Mr. Sterbcow.

    Mr. STERBCOW. You asked before about homeowners losses, I do have the data for Louisiana, if that is helpful, by year.

    On the average from 1986 through 1997, the combined ratio, which would mean loss plus underwriting expenses, were 105.4 percent of written premium. The total written premium was $4.981 billion and combined ratio was 105.4 percent of that. And the worst year was 1992, with a hurricane, where the loss ratio was 184.52 percent of premiums written, and that is why we have such a problem in our State.

    Mrs. KELLY. Thank you very much.

    Chairman LAZIO. I thank the gentlelady.

    The gentleman from Virginia.

    Mr. GOODE. Mr. Singer, Mr. Frank touched on this in his questions, and I have talked to several insurance representatives about this, and I was always under the impression that it was not going to cost the taxpayer any money, but there is $1 million dollars in the bill up front. Are you anticipating getting that or just having it authorized in case you needed it to start up the commission?

    Mr. SINGER. The $1 million dollar fee to start up the commission, I frankly had not focused on that issue in the context of a bill that involves multibillions.
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    I think that would be a very small expense. I think that one issue, if a system like this is developed, is having an adequate professional staff in Government to make the actuarial decisions as to how to set the rates. I can speak from personal experience, that is an extremely difficult thing to do. Some of the very best people who do it are conflicted out because they work for private industry. You are predicting a very low frequency, high severity event. You get to make the decision only once per year, whereas the private industry, they make it during the course of the year when new information comes in. I have thought about that, and I think doing it properly will cost a considerable amount of money and it is not something that Government traditionally has had an easy time doing.

    Mr. GOODE. Let me ask you this. How much do you think, say, in the first two years would be collected for this fund? Just ballpark? How many billions?

    Mr. SINGER. For the fund?

    Mr. GOODE. Yes.

    Mr. SINGER. I do not know. I cannot estimate that. If I understand your question, it would have to do with market dynamics at the time.

    Mr. GOODE. Mr. Anders.

    Mr. ANDERS. I understand that it will be in the billions. The initial money is seed money which will be replaced by the premiums collected. So it is not really an expenditure. I think it is seed money.
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    Mr. GOODE. I know a lot of State insurance commissions, they get it back out of charges to the companies. I know that it is a minor point, but—and that is what you are saying, I take it, Mr. Anders.

    That is all that I have got, Mr. Chairman.

    Mr. FRANK. Would the gentleman yield me his remaining time.

    I think as Mr. Singer indicated, the $1 million in administrative expenses was not the issue. And I am talking about Section 9 on page 30, Disaster Reinsurance Fund, and we have here on lines 24 and 25, page 31, ''To the extent that the amounts in the funds are insufficient to pay claims, the Secretary may issue such obligations of the fund as may be necessary to cover the insufficiency. This will be public debt. Obligations issued under this subsection shall be subjected,'' and so forth. ''All attempts of purchase and sale shall be treated as public debt transactions,'' and it goes on to say that the Secretary may issue such obligations only to such extent in such amounts as are provided in appropriations acts.

    So the bill is an open-ended authorization to the appropriators to appropriate money to cover shortfalls in the fund that may or may not be paid back. The bill does contemplate at some point the fund will have to issue public debt of the United States authorized by appropriations and subject to whatever debt limit and spending cap we have, whatever CBO ruled.

    It does say any obligation shall be repaid, including interest, and shall be recouped from premiums charged from reinsurance coverage, although the timing is not—there is no timetable, so it could happen over a period of years. So you have to appropriate the money up front, and there would be an effort to recoup it. And if you had other problems of a disaster sort, they would delay it. So there is a provision for ultimate repayment, but it is not—but there is no timetable.
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    Chairman LAZIO. I thank the gentleman.

    Mr. Sweeney, the gentleman from New York.

    Mr. SWEENEY. Thank you, Mr. Chairman. Let me commend you first on your efforts here. I recognize that a lot of what we undertake in H.R. 21 by virtue of the nature of the act and the fact that we are dealing with natural disasters, is speculative at best. I only have a couple of very brief questions.

    Mr. Singer, I think Mr. Sherman touched a bit on this with you. If your company were to write policies in coastal areas, and thus you needed more reinsurance, would that reinsurance be available to you and what sources of reinsurance would you have and where would you go?

    Mr. SINGER. My company does have an extensive reinsurance program, both domestic and foreign reinsurers, which we use to protect ourselves against catastrophe risks. We have both coverage that is specific to catastrophes. There has to be a declared catastrophe before it pays out. We have quota share reinsurance where some portion of the loss, maybe the losses from the bottom up get paid. We have an aggregate catastrophe cover where a number of smaller catastrophes can be aggregated together; and if we reach a certain limit, we get payment out of that.

    We have an individual property loss above a certain limit for a particular building, let us say, that applies more in commercial, which would apply in a catastrophe.
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    Mr. SWEENEY. So would you anticipate shortfalls if you began to write more coastal policies?

    Mr. SINGER. We match our coastal writings to both our capital, our retained capital, and the reinsurance we purchase. And we prefer to do that privately, of course. We are able to match the two.

    If your question is could we write enough coastal insurance that we could not buy reinsurance for it, we are nowhere near that. But I guess it is conceivable that any insurance company, if it overconcentrated in an area, its reinsurer would run a computer model on it and at that point decide that that particular company was overexposed and overconcentrated rather than prudently disbursed.

    Mr. SWEENEY. My question is essentially can the market bear such writing; and you seem to indicate generally, yes?

    Mr. SINGER. Yes. If the question simply is: Is there enough reinsurance capacity, yes, there is much too much capacity.

    Mr. SWEENEY. Maybe you could for me, very briefly because we are going to have to go vote, just give me a sense. Some insurance companies support H.R. 21 and some are opposed to it. What are the lines of delineation? What are the big issues?

    Mr. SINGER. I really can only speak for my company, CGU, and a great number of companies like my company, perhaps the majority in numbers, their writings are disbursed. They would prefer to buy private reinsurance. They feel they can compete without a Government bailout of any kind, and they feel that that is the appropriate way to conduct their business. Others do not feel that way.
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    Mr. SWEENEY. One last question, and it is for Dr. Gray.

    In your testimony, as I understand it, you seem to indicate that you anticipate an increase in hurricane activity for an extended period of time, correct?

    Dr. GRAY. Along the East Coast and Florida. In the Gulf Coast, yes, some pickup, but not as much.

    For instance, in a period of the middle 1940's to the middle 1960's, we had 18 major landfalling storms coming in in that 22-year period.

    In a comparable 27-year period, from 1966 through 1994, we only had 4. An 18-to-4 difference, which on a per-year basis is about 5-to-1 difference.

    We cannot say that we will have 5 times as much in the next few decades, but it looks like we have recently entered one of these periods comparable to the 1940's, 1950's and early 1960's. If this assessment proves correct, then we going to see an unprecedented increase in hurricane-spawned damage. No one can say for sure, but the probability looks very high for this happening.

    Mr. SWEENEY. Let me just ask any of the panelists then. What would be the effect on cost? Can you anticipate if Dr. Gray is correct, what that would mean? Would that mean a dramatic increase in cost?

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    Mr. STERBCOW. One thing you asked was about the availability of reinsurance, and take, for example, State Farm, they do their own reinsurance, and yet they would not write any more policies in our State. They would not write any more policies in Florida unless you were an existing customer. The risk was too high. They had plenty of money for reinsurance, but they moved it to areas with lower risk. Is there plenty of reinsurance, yes; is it affordable, yes, but not in those high-risk areas.

    Mr. SWEENEY. Thank you. I yield back the balance of my time. Mr. Hill had asked me to yield to him, but I am not sure that I have any time left.

    Chairman LAZIO. The gentleman's time has expired.

    Anybody can submit questions and we will incorporate the answers into the record.

    I want to thank the panel for their excellent testimony. Let me emphasize the need for us to think proactively and not wait for the inevitable natural disaster to hit a major population area which in the end not only disrupts the quality of life and the peace of mind of those Americans living in those areas, but jeopardizes our treasury as well.

    Your testimony has been enormously helpful in terms of providing a basis for this subcommittee to continue to refine the bill and move forward and have a good product that does just what we want, which is to have a limited approach and an effective approach to providing peace of mind to Americans who need insurance.

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    Thank you. This hearing is now in recess.

    [Whereupon, at 4:50 p.m., the hearing was adjourned.]