Adapting to a New Normal: Climate Uncertainty and the Implications of Hurricane Sandy for Our Economics

By Saliem Fakir · 8 Nov 2012

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Picture credit: Hurricane Sandy from the International Space Station courtesy NASA via Wikimedia Commons
Picture credit: Hurricane Sandy from the International Space Station courtesy NASA via Wikimedia Commons

Hurricane Sandy demonstrated how a large-scale catastrophic weather event, like Hurricane Katrina of 2005, is not a once-off incident, but a recurrent phenomenon.

Extreme weather has the potential to set off other crises and disasters too. Japan’s tsunami was quickly followed by the Fukushima nuclear reactor meltdown magnifying the scale of the disaster from a single extreme event to a multi-crisis economically transformative event -- demonstrated in Japan now debating the use of nuclear power as a source of energy supply for its future.

Of the 8820 natural catastrophes analysed globally between 1960 and 1999, 85% were weather related and contributed to 75% of economic losses. A study by Insurance Australia Group Limited points to the fact that worldwide, economic losses from catastrophic events have doubled every ten years or so.

Hurricane Katrina was among the five deadliest storms in US history killing between 1300-1500 people with damages estimated at US$120 billion. The cost of Hurricane Sandy is estimated to be US$50 billion, if not more. Not to mention the loss of productivity due to shutdown periods during the storm and after.

What is certain is that markets and economics won’t cope if the conventional way of doing things prevails.

Small increases in an event’s severity have shown to exponentially increase incidents of damage and insurance claims. For instance, a doubling of wind-speed can lead to a four-fold increase in damages.

Conventional methods for risk assessment and pricing for insurance purposes and disaster management are no longer workable models that can help cost or for that matter suggest what levels of funds should be set aside for a disaster. It is likely there will never be enough funds to cover everybody.

Accordingly, there is a need for rethinking fiscal planning and insurance provision.

However, as private insurance companies won’t be able to cover large economic losses, they are increasingly seeking ways to avoid doing so through various types of policy exclusions, increasing premiums or loading the burden of excess payments to customers. Since insurance is a globally connected market, increases in premiums in one place also affect premiums in other places.

Loss magnification also has to do with increased densification of the population in urban areas and along coastal regions. Hurricanes, typhoons and cyclones, globally, cause the greatest weather related insurance costs for those living in coastal areas. Geographic concentration of events tends to push the price of premiums significantly higher in disaster prone areas.

Some insurance companies have simply refrained from insuring areas where they believe the possibility of adverse weather events is just too high and could lead to market erosion.

These strategies are starting to have an impact on provinces and national governments and, rightly or wrongly, simply place a greater onus on governments to take on additional responsibilities for insurance cover.

Research by economists such as Ilan Noy and others show that for island states, natural disasters can have long-lasting economic consequences. For continental economies we simply don’t know enough about what the impact could be in the long-term. Despite this, we should exercise prudence and improve our ability to adapt.

So, how can we adapt?

Reforms to government regulations over how the insurance industry operates can be done. There is a major makeover of insurance policy schemes in high-risk areas, for example, in the US at present. Attempts vary from compulsory enrolment to National Flood Insurance Programmes linked to home bond approvals to tax reforms that encourage insurance firms to carry larger reserve funds. Others have looked at catastrophic bonds and even sovereign funds.

Buildings, roads, bridges and other types of infrastructure represent the accumulated investment, assets and wealth of private individuals, private companies and the government.

They are long-term investments that provide both a social good, generate annuity income and are essential for the productivity of an economy.

Long-term fiscal planning with better understanding of the economic effects of disasters, in terms of distributional and fiscal haemorrhage, will allow for prudent approaches to disaster insurance and approaches to precautionary fiscal saving.

Crucially though, adapting to future catastrophes - which seem almost certain - won’t be fixed through better insurance premiums or increasing the size of reserves.

The answer lies in how humans re-organize their cities and economies.

The late Elinor Ostrom (Nobel Laureate for Economics), who died the day the Rio Summit opened on June 11, 2012 penned an article for Project Syndicate in which she wrote: “We have never had to deal with problems of the scale facing today’s interconnected society. No one knows for sure what will work, so it is important to build a system that can evolve and adapt rapidly’.

Ostrom alludes to an uncertain future, but more importantly, to the fact that if we know it’s going to be uncertain, as Hurricanes Katrina, Rita and Sandy have demonstrated, to how we can adapt on scale as human society to minimize death and economic costs.

She makes the poignant point that high levels of political maturity, economic foresight and social co-operation will be needed. Co-operative behaviour emerges over time and is a socially created form of behaviour. Altruism in periods of persistent stress is really a test of whether cooperation can be genuine, lasting or short-lived.

We will simply have to think of different kinds of cities that are better reinforced, that allow for more rapid evacuation and mobilisation of critical resources and have advanced early warnings systems for changes to weather patterns.

The island nation of Cuba is an excellent example of a relatively poor country that has minimized the effects of natural disasters, even though it sits in the epicentre of the most natural disaster prone area of the planet, by having an effective evacuation programme.

In unequal societies a lot of how we manage disasters depends on the institutional cohesiveness of government and capability co-ordinate rapid responses to crisis. But it is still to be seen if we will all be better off or for that matter, if the optimal solution finds its way where the poorest have no recourse other than to rely on government, often very weak at the local level. Those who are better off will simply opt out of a public system to fend for themselves by paying for private solutions.

These challenges become more acute in politically, racially and class divided societies. Japan perhaps survived the double-strike event in Fukushima because its society is very homogeneous and the Japanese adopt a very stoic view of tragedy.

Thus, emphasis will have to be placed on social capital as national governments can do little without lots of local co-operation and voluntary support.

And, if you are a believer in climate change we should get all governments around the world that are high carbon emitters to stop using fossil fuels. Perhaps that will save us or we may just resign ourselves to the dark fate that it is already too late to do anything other than adapt to the recurrent bad moods of mother nature.

Fakir is an independent writer based in Cape Town.

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Rory Short
9 Nov

Extreme Weather

Extreme weather is a natural consequence of global warming. Global warming is a consequence of humanity's addiction to burning fossil fuels for energy. Our addiction to fossil fuels is not necessary as the sun pours enough energy on to the planet to meet our needs and we are quite capable of continuously refining the technology that we need to utilise renewable energies. Why are we not doing this? Quite simply it is because those who are profiting from the sale of fossil fuels are totally resistant to any change away from fossil fuels.

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