Federal Disaster Assistance:

What Should the Policy Be?

PAD-80-39: Published: Jun 16, 1980. Publicly Released: Jul 16, 1980.

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Federal disaster assistance is provided to the private sector through five major programs. These programs are intended to serve different types of disaster victims, but some groups are eligible for benefits under several programs. Disaster assistance policy should be based on economic welfare considerations of equity and resource allocation efficiency. Disaster assistance should not vary across income classes; however, the tax code makes the government bear a higher share of losses for higher income victims than for lower income victims. Federal disaster relief should vary with the severity of the disaster loss, not the terms on which the programs are subsidized; and the severity of a natural disaster should be measured by the extent of individual losses, not the scope of the disaster. Federal disaster policy should actively discourage people from locating in known hazard-prone areas. Loans, grants, and insurance are the three forms of subsidized assistance available. In loan programs, the government bears a larger proportion of the losses of higher income individuals than for lower income individuals as nonreimbursed losses and interest payments can be deducted from taxable income on the basis of a progressive system of taxation. Grants completely transfer risks covered to society. Since grants cost recipients nothing, they are highly inefficient as a policy tool. GAO believes that insurance is the most efficient and equitable method of providing disaster assistance, but two problems exist in insurance: (1) moral hazard exists when people can control an outcome through their own decisions; and (2) adverse selection occurs when insurance premiums are based on average premiums set to cover a fairly broad spectrum of risks. The criteria which should be recognized in designing disaster assistance programs are: (1) programs should be designed to minimize incentives for poor locational decisions; (2) the generosity of the programs should depend on the severity of the disaster, not on variations in program terms; and (3) no individual or group should be able to improve their pre-disaster state as a result of disaster assistance. Restriction of eligibility to individuals who cannot obtain credit elsewhere would be useful as it would screen out some of the applicants. Federal tax transfers for disaster-related losses pay a large portion of damage to luxury items inflating the federal disaster assistance budget.

Current federal disaster programs do not adequately minimize the possibility of federal policy contributing to bad locational decisions; provide consistent benefits among disasters, victims, or over time; or provide a controllable disaster assistance budget. The federal disaster policy should treat likes alike; provide assistance to those most in need, given a disaster budget constraint; discourage location of economic and social activity in hazard-prone areas or encourage relocation and private hazard mitigation; protect individuals, businessmen, farms, etc., from financial bankruptcy; and improve the cost effectiveness of disaster assistance. Insurance is superior to alternative means of delivering disaster assistance. The advantages of insurance include: (1) the provision of more stability in funding disaster losses, because losses are paid from reserves accumulated before the fact; (2) only one value judgment is needed with insurance, the level of subsidization of the insurance premium; (3) the cost of locating social and economic activity in a hazard-prone area is clear with an insurance program; and (4) all victims would bear the same relative proportion of the total risk, though some would clearly pay more in premiums, depending on the coverage level desired and the actuarial risk of loss.

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