Financing Recovery After a Catastrophic Earthquake or Nuclear Power Incident

[Magda Hassan]

http://www.fas.org/sgp/crs/misc/R41968.pdf
This report examines catastrophic earthquake risk and insurance issues facing the United
States in light of the recent devastating Japan earthquake and tsunami. It examines both
traditional and non-traditional approaches for financing recovery from earthquake losses
as well as challenges in financing catastrophe losses with insurance. Much of earthquake disaster
and nuclear-accident liability is currently borne by taxpayers. This report explores the feasibility
of a federal residential earthquake insurance mechanism and concludes with policy implications
of such a program.


Summary
On August 23, 2011, a rare, powerful magnitude 5.8 earthquake and aftershocks hit Mineral, VA,
shutting down two North Anna Power Plants located about 7 miles from the earthquake's
epicenter. The earthquake was felt from Georgia to southeast Canada. Other earthquakes have
also occurred in the area, as well as in surrounding areas. For example, on July 16, 2010, a 3.6
magnitude earthquake occurred in Gaithersburg, MD, about 110 miles from the epicenter.
Seismologists report that although Virginia is classified as a "moderate" seismic risk zone, since
1977, the state has experienced 160 earthquakes, of which just 16% were felt. According to the
U.S. Geological Survey (USGS), this earthquake was the strongest earthquake to hit the entire
states since the 5.8 magnitude tremor in 1897.
Separately, on March 11, 2011, a massive 9.0 magnitude earthquake struck off the coast of
Honshu, Japan. It was the most severe and likely the costliest earthquake to hit Japan in the 130
years of recorded history. The Japan earthquake and tsunami caused more than 10,000 casualties,
widespread property and infrastructure damage, blackouts, fire, and nuclear meltdowns. The
nuclear crisis has compounded the challenges faced by a nation struggling to clean up and recover
from the earthquake and tsunami. Two weeks later, the disaster triggered a crisis at the nuclear
power facility; Japan's government said there was a leaking reactor core at the Fukushima Daiichi nuclear reactor complex, releasing radioactive contamination into the atmosphere and
groundwater.
In the aftermath of the recent East Coast earthquake (and shut down of the North Anna nuclear
power plants) and Japan's technological and natural disaster, U.S. policymakers are asking if it
could happen here and, if so, how associated costs would be financed. In the event of a major
natural disaster, several catastrophe risk financing and insurance issues could arise, including (1)
the need to revisit the nature, extent, and timing of potential earthquake and tsunami hazards in
the United States; (2) the adequacy of nuclear third-party liability insurance capacity; and (3) the
challenges of financing recovery from natural disasters and making earthquake insurance more
affordable. The latter challenge is largely a function of the national financial markets' capacity to
absorb the cost and economic burden of a devastating mega-earthquake.
Given the economic devastation in Japan, there is heightened congressional interest in finding
ways to reduce disaster risk for homeowners, insurance companies, financial firms, and both
federal and state governments. This report examines earthquake catastrophe risk and insurance in
the United States in light of recent developments. It examines both traditional and non-traditional
approaches for financing recovery from earthquake losses as well as challenges in financing
catastrophe losses with insurance. The report also explores the feasibility of a federal residential
earthquake insurance mechanism and assesses policy implications of such a program. Finally, the
report examines legislation introduced in the 112
th
Congress that addresses issues related to
earthquakes, including S. 637, the Earthquake Insurance Affordability Act. S. 637 would
authorize the U.S. Treasury to guarantee up to $5 billion in bonds available to certified public
entities, like the California Earthquake Authority (CEA), following a catastrophic seismic event.
The entity would have to exhaust its claims-paying ability before the federal guarantee becomes
available. The measure is designed to reduce earthquake insurance rates by reducing the need to
purchase reinsurance. The bonds would be repaid with premiums.
This report will be updated as events warrant.

Contents
Introduction...................................................................................................................................... 1
Recent Developments ...................................................................................................................... 3
East Coast Earthquake of 2011.................................................................................................. 3
Japan Earthquake and Tsunamis................................................................................................ 3
U.S. Earthquake Risk Assessment and Exposure ............................................................................ 4
Risk Assessment........................................................................................................................ 5
Exposure.................................................................................................................................... 6
Tsunami Exposure ..................................................................................................................... 9
Financing Recovery Following an Earthquake.............................................................................. 10
Residential Earthquake Insurance ........................................................................................... 11
The Role of Reinsurance ......................................................................................................... 12
Financing Recovery Following a Nuclear Incident ....................................................................... 13
Challenges in Financing Extreme Event Losses............................................................................ 14
Actuarial and Rate-Setting Difficulties ................................................................................... 15
Adverse Selection and Risk Spreading.................................................................................... 15
Tax, Accounting, and Regulatory Constraints ......................................................................... 16
Is Federal Earthquake Insurance Feasible?.................................................................................... 17
Policy Issues and Questions........................................................................................................... 18
Legislation ..................................................................................................................................... 19
Figures
Figure 1. Probabilistic Earthquake Hazard Map of the United States ............................................. 7
Tabl es
Table 1. Number of Earthquakes in the United States, 2000-2010.................................................. 8
Table 2. Ten Costliest World Earthquakes and Tsunamis Ranked by Insured Losses, 1980-
2011 .............................................................................................................................................. 8
Table 3.Ten Deadliest World Earthquakes and Tsunamis Ranked by the Number of
Fatalities, 1980-2011 .................................................................................................................... 9
Appendixes
Appendix. Standard Property Insurance Earthquake and Flood Exclusion Language .................. 20
Contacts
Author Contact Information........................................................................................................... 20