Rate Disparities Delaying Quake Insurance Plan

A major stumbling block to approval of a state earthquake insurance authority by the Legislature has been a plan to charge most Bay Area homeowners 60% more than most Los Angeles homeowners.

Several Bay Area lawmakers mentioned the discrepancy in price when voting against the bill when it stalled in the state Senate on July 11. The Democratic leader of the Senate, Bill Lockyer of Hayward, called the pricing plan “inexplicable and unfair” just before the final vote.

But most insurance experts contacted by The Times said they believe the differentials are explicable and fair, based on calculations that the risk of a damaging earthquake is higher around San Francisco than Los Angeles.

Not all quake scientists agree that these calculations are valid. A minority believe that the quake danger in the Los Angeles Basin may be about the same as the Bay Area, and most scientists call for reexamination of the issue by an impartial panel of experts.

Legislative negotiations continue. State Insurance Commissioner Chuck Quackenbush, who has reduced price differentials once, is under pressure to reduce them further.

Lockyer and other Bay Area senators are making their support for the bill partly conditional on an agreement to sharply reduce the North-South differential--if not erase it altogether.

And there are hints that Quackenbush is listening.

“The rates are not part of the bill,” Quackenbush spokesman Richard Wiebe said. “They can be changed before or after the bill is passed. The rates we have announced are those approved by an advisory board in March, but they have not yet been approved by the commissioner.”

Quackenbush may call an Insurance Department public hearing on the subject, Wiebe said.

But a spokesman for Lockyer said that mere assurances that the matter is being studied “are not adequate to cause him [Lockyer] to support the bill.”

The rates that have been announced are an average of $3.30 per $1,000 of coverage for Los Angeles, an average of $5.25 for the Bay Area, and a flat $1.10 for Sacramento.

There are variations. A few ZIP Codes in Los Angeles County will be priced at $1.75 or $1.90, and there are wide variations within Orange, San Diego and Riverside counties.

A strong defense of price differentials comes from one of the nation’s leading experts on disaster insurance, Howard Kunreuther, co-director of the Risk Management and Decision Resources Center at the Wharton School at the University of Pennsylvania.

“We want to let people know they’re in harm’s way in certain areas,” he said. “If we want to encourage loss reduction measures in the future, the best way to do it is to have rates based on risk.

“If you subsidize premiums and flatten them across the board, then we’ll have much less incentive to undertake mitigation measures.”

Kunreuther also made the point that if rates were equal all across California, what insurers know as the principal of “adverse selection” would take hold.

People in high risk areas such as Oakland would be paying less for their policies than they were worth, while those in low risk areas like Sacramento would be paying more than their policies were worth.

In time, the adverse selection argument goes, more policies would be sold in the riskiest areas and fewer in the less risky, and the ultimate claims pattern would be distorted.

Quackenbush has moved in this direction to some extent. When a rate of $11 per $1,000 coverage was recommended to him by his experts for Oakland and other East Bay areas along the Hayward fault, he ordered that the rating band be “stretched out,” so as to make a common Bay Area rate of $5.25.

The firm that had the contract to design the earthquake authority was Eqecat, a subsidiary of the consulting company EQE, and the actuary who recommended the rates was Richard Drennan, who had retired from Allstate.

Drennan did not return calls, but Peter Yanev, head of EQE, and James J. Johnson, head of Eqecat, stoutly defended the proposed differentials.

“It’s not really surprising that L.A. would come out cheaper,” said Yanev. “I would expect the next event is more likely in the South, because it’s a big area, but San Francisco is much closer to major faults.”

Johnson noted that the most dangerous faults in the Bay Area, the San Andreas, the Hayward and the Calaveras, are all very close to heavily populated areas, while the most dangerous ones in Southern California, the San Andreas, the San Jacinto and the Elsinore, are away from such areas.

“Other significant faults in L.A., the Newport-Inglewood and the Elysian Park thrust fault, are generally assumed to be less active than Hayward and San Andreas,” he said.

“Besides, the faults in the Bay Area are believed to be nearer the end of their cycles. So the probability there in the near future is higher than in L.A.”

Another factor, Yanev and Johnson suggested, is the older and more closely spaced housing in the Bay Area. This means equivalent quakes would probably do more damage there than in Southern California.

Another of the so-called quake modelers, John Wiggins, agreed that a 60% higher rate in the Bay Area is merited by such factors.

But an earthquake scientist with the U.S. Geological Survey, Bill Ellsworth, took exception.

“I was a bit troubled with the way they went about developing their rates,” Ellsworth said. “The historic record shows about as strong shaking in Los Angeles as in San Francisco.”

The 1857 Fort Tejon earthquake on the San Andreas fault in Southern California balances out the 1906 San Francisco quake, he said, “and there’s also been the Long Beach, San Fernando and Northridge quakes right in the Los Angeles area.”

Those occurred during the 90 years after the San Francisco quake, a time when there was only one really strong quake near the Bay Area, the Loma Prieta in 1989.

“So we need a very careful review of these suggested rates,” said Ellsworth.

A call for a formal hearing on the rate question came from Haresh Shah of the quake modeling firm Risk Management Solutions.

“There should be some differential between San Francisco and Los Angeles,” he said. “The precise amounts, however, concern me. These numbers should be independently verified.”