EPA Deregulation’s Increased Risk for Real Estate

It is the business of insurance companies to price risk. Insurance, in fact, has been doing this since the second millennium B.C., as evidenced in the Babylonian Code of Hammurabi.

house-insurance-419058_1920It is the business of insurance companies to price risk. Insurance, in fact, has been doing this since the second millennium B.C., as evidenced in the Babylonian Code of Hammurabi. Lloyd’s of London has been underwriting risk since the 1750s, and Benjamin Franklin set up a fire insurance company in the colonies as early as 1752. Today, no commercial real estate owner would consider foregoing property and casualty insurance.

A key reason for the long-term success of insurers is a by-the-numbers discipline. Statistics rule in this field, almost beyond any other. Risks are evaluated by the magnitude of potential loss, and by its probability. The calculations are cold, with little or no tolerance for sentiment or ideology. Loss is more or less inevitable—though it can be mitigated—and must be appropriately priced.

So attention must be paid when the Insurance Information Institute devotes an extensive analysis to the impact of natural catastrophes in the United States, drawing on data compiled by Munich Re’s NATCAT Service. The data measures property loss events exceeding $25 million in insured losses, affecting a significant number of policyholders and insurers. In 2016, there were 91 such events, with an estimated $43.9 billion in overall losses, of which just $23.8 billion was insured. The majority of the uninsured losses were to homeowners hit by floods and hurricanes.

Perhaps more troubling is the long-term trend in the incidence of catastrophes. In the 1980s, an average of 44 catastrophic events took place per year. That grew to 60 events in the 1990s and 67 events in the first decade of the current century. Since 2010, that number has surged to 82 events per year (through 2016). Although final data on 2017 is not yet in the books, this has clearly not been a good year. Wildfires have taken 8.5 million acres, and have consumed thousands of structures. Hurricanes Harvey, Irma and Maria carved a swath of devastation through Texas, the Southeast and the Caribbean, with total losses likely exceeding $100 billion.

The National Centers for Environmental Information has identified 15 events this year with costs exceeding $1 billion apiece. While the cost of this year’s major hurricanes has not yet been completely quantified, this NOAA agency tabulates $1.2 trillion in total across 218 separate events since 1980, thanks to extreme weather events and climate change trends.

The accelerating pace of such natural catastrophes, linked to the trend of global warming and long forecast by climate scientists, clearly exposes real estate owners and investors to rising insurance premiums. Insurers rely upon a combination of premiums and investment income to pay out claims, while using the reinsurance market to spread risk. A 29-company coalition of insurers warns of a growing “protection gap” between covered losses and the actual cost of disasters, which are now six times more frequent than in the mid-20th century. Swiss Re, a major reinsurer, forecasts that rising sea levels and increasing storm frequency could raise average annual losses by 170 percent in the coming decades. Munich Re has been working on climate change issues since the 1970s and maintains that “public risk managers (like government) need to pay more attention to the reduction of risk; otherwise we will see an ongoing increase in losses, driven and intensified by climate change.”

Intensification certainly seems to be in the cards, based upon the 2017 activity of the federal government, in particular the Environmental Protection Agency. Some 25 regulations have already been abrogated by the EPA, including rules on greenhouse gas emissions, how the costs of environmental impacts are calculated, and several direct concessions to the coal industry. The administration has embarked on withdrawal from the Paris Climate Accord, signed by 195 nations in 2015. It is also striving to roll back the Clean Power Plan, which seeks reductions in power plant emissions, now accounting for 35 percent of carbon dioxide emissions into the atmosphere. In all, some 52 regulatory changes have been floated since President Trump’s inauguration—changes whose common theme is environmental degradation leading to increased economic risk to property.

This is not a “tree-huggers” issue. Insurers are not the only hard-headed, numbers-oriented professionals expressing alarm. The Oct. 23, 2017, issue of Engineering News-Record magazine featured commentary on damage to buildings and infrastructure “causing havoc … and negatively impacting networks of goods and services, impacting local and global constituencies.” That periodical also reported on a forthcoming manual from the American Society of Civil Engineers that will announce standards for more resilient structures that can accommodate changing climate and weather extremes.

As the first year of the Trump era draws toward a close, it is very much in the interests of real estate owners, investors and users to pronounce forcefully the alignment of the commercial property industry with the values of clean air, clean water and greenhouse gas reduction. For we are witnessing the latest instance of what historian Barbara Tuchman long ago called “the march of folly”: the pursuit of public policies contrary to a nation’s self-interest, owing to a narrow pursuit of party and passion.