With insurance costs associated with the recent Los Angeles wildfires soaring to $20 billion, according to J.P. Morgan, insurance companies may raise insurance policy prices nationwide to help recoup some of their losses.
The news comes as the Los Angeles wildfires continue to develop into what could yet become the biggest and most expensive fire event in U.S. history.
"Expectations of economic losses stemming from the fires have more than doubled since yesterday to closer to $50 billion, and we estimate that insured losses from the event could exceed $20 billion [and even more if the fires are not controlled]," J.P. Morgan investment analyst Jimmy Bhullar noted in a statement.
Those insurance costs are now expected to spread to the rest of the United States as insurance companies look to boost policy prices for consumers thousands of miles away from California to recoup their L.A. wildfire financial losses.
Data from a 2022 Harvard Business School study titled "Pricing of Climate Risk Insurance: Regulation and Cross-Subsidies" explains the insurance companies' disaster policy pricing strategy.
"Using two distinct identification strategies and novel data on regulatory filings and ZIP code level rates, we find that insurers in more regulated states adjust rates less frequently and by a lower magnitude after experiencing losses," the study states. "Importantly, they overcome these rate-setting frictions by adjusting rates in less regulated states, consistent with insurers cross-subsidizing across states."
"In the long run, these behaviors lead to a decoupling of rates from risks, implying distortions in risk sharing across states," the study concludes.
Furthermore, states like Vermont and Virginia, where insurance regulations are lax relative to other states, may see insurers elevate their prices to compensate for the California wildfire losses. Yet even states with more stringent compliance rules could see elevated insurance rates due to the L.A. fires.
"Over the past four years, homeowners insurance premiums have increased by 30 percent or more in many markets outside of California," said Matthew Auer, dean of the School of Public and International Affairs at the University of Georgia and an adviser at Insure.com.
Auer noted that this trend is likely to continue.
"The main drivers of these increases are increasing losses incurred by insurers due to natural disasters, expectations for future losses due to natural disasters, rising reinsurance costs, and rising construction costs," he says. "Also, if an insurance company experiences high reinsurance costs in one state, those costs may be partially recovered by raising insurance rates in a second state."
One caveat might help states keep a lid on rising insurance costs if disasters occur outside of a specific U.S. state. "By and large, insurance commissioners in each state are required to ensure that their residents are not being discriminated against by insurers, including insurers attempting to recoup losses from claims paid out in other states," Auer said.
Meanwhile, California residents will likely face major insurance cost issues in the future due to the wildfires.
"More insurance companies are likely to cease writing new homeowners insurance policies in California or leave the market altogether in light of major insured property losses (perhaps as high as $40 billion or more)," Auer said. "This trend -- insurers limiting their exposure to the California market -- will continue apace despite the California insurance commissioner's recent efforts to encourage insurers to stay."