Overhaul the Earthquake Authority, Before the Next Big Quake

As we approach the seventh anniversary of the devastating Northridge earthquake, I believe it’s time to take the California Earthquake Authority back to the drawing board.

I am urging my colleagues on the CEA board to join me in asking the state Legislature to reexamine the financial structure of the CEA to make sure it is fully capable of providing earthquake insurance to millions of California homeowners. I want to ensure that the people who already have been victimized once by an earthquake are not victimized again if the CEA is unable to live up to its obligations.

Here’s why I believe restructuring is needed. In the wake of the widespread damage caused by the Jan. 17, 1994, quake, insurance claims across Los Angeles, Ventura and Orange counties climbed to approximately $12.5 billion. Two years later, the previous insurance commissioner won approval of legislation creating the CEA and divesting insurers of their legal obligation to offer catastrophic quake coverage along with homeowner policies. Instead, insurers were allowed to offer quake policies through the CEA.

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In the legislation was an implicit promise to homeowners: The CEA would provide broadly available, reasonably priced earthquake insurance so Californians could protect their most important economic asset--their homes.

I am deeply concerned that the CEA may not be able to live up to its commitments and to keep faith with the promises made when it was created. Before its establishment, about 2 million homeowner earthquake policies were held across the state. Now, there are approximately 1.3 million, and fewer than 850,000 of them were purchased through the CEA. Nearly half of the CEA-insured households are in Los Angeles, Orange and Ventura counties.

A recently completed independent analysis brings to light several challenges that we must address on behalf of homeowners across the state.

The first challenge is to financially restructure the CEA to ensure that it can meet its obligations to its policyholders. The agency’s own study completed in 1999 showed that there was a 1 in 20 chance that it would not survive--which means its ability to meet its claims obligations in the event of earthquakes--through 2013. But the independent analysis indicates that if just a few additional real-world financial risks are factored in, the chances of survival drop to 1 in 8. Moreover, the analysis indicated that just fulfilling one key part of the original promise to homeowners--making its policies broadly available--reduces the CEA’s odds of survival.

Today, it is serving a significantly smaller portion of the California market than it was supposed to reach. But as it adds policyholders, its financial underpinning is weakened.

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Another troubling issue is whether the CEA, as structured, is “a one-shot wonder.” Put another way, the independent analysis questions whether the CEA could stay in business and continue to issue policies in the wake of a significant earthquake. Indeed, because the CEA was not given adequate financial backing when it was formed, current law allows it to add up to a 20% surcharge to all of its customers after an earthquake.

Under the present financial arrangement, it is possible that homeowners, devastated by quake damage, might also be hit with higher insurance premiums. The CEA was supposed to be a long-term solution, not a short-term Band-Aid.

The analysis also pointed out that it is likely that the CEA will, over a period of years, be insuring a portfolio of higher risk homes. That’s because private, non-CEA companies have the ability to “cherry-pick” the lowest risk homes for coverage. This will further weaken the financial strength of the CEA.

These are among the critical issues that must be addressed so that current and potential policyholders maintain their faith and trust in the CEA. Now is the time to take a fresh look at the CEA. It is clear that the CEA needs to be overhauled if it is going to fulfill its commitments and if the state is to keep faith with the promises made when it was formed.