Free Markets to Combat Climate Change

January 3, 2019

One of the concerns about climate change is that it may generate more natural disasters such as hurricanes and forest fires. People living along the Atlantic and Gulf Coasts or in forested areas of California may face higher risks if pessimistic climate predictions come true.

That is disagreement about large-scale policy actions we might take to try and reduce future climate risks. Washington State voters, for example, soundly rejected a carbon tax on the ballot in 2018. People are skeptical of big government solutions to climate change.

There are, however, many pro-market reforms we can take to reduce the risks to life and property from natural disasters. We can cut subsidies that induce people to live in flood and hurricane zones, and we can reform policies that induce people to live in fire-prone areas.   

A 2010 World Bank / United Nations study “Natural Hazards, Unnatural Disasters” discusses market-based reforms that governments worldwide should take to mitigate risks. The report was endorsed by a very impressive group of liberal and conservative economists and experts.

Here are some highlights:

… governments should permit land and housing markets to work, supplementing them with targeted interventions when necessary. When land and housing markets work, property values reflect hazard risks, guiding people’s decisions on where to live and what prevention measures to take.

… But markets, when smothered, dampen the incentives for prevention. In Mumbai, where rent controls have been pervasive, property owners have neglected maintenance for decades, so buildings crumble in heavy rains.

… Getting land and rental markets to work can go a long way to inducing people to locate in appropriate areas and take preventive measures.

… But when a person’s ownership of property is not secure, the possibility of eviction or demolition erodes the incentive to invest in safe structures. A study of 1.2 million land titles distributed in 1996 in Peru finds that land titling is associated with a 68 percent increase in housing renovation within four years.

… Insecurity of land holdings is not the only disincentive to build well: rent controls or other similar regulations erode a landlord’s incentive to maintain buildings.

… Calls for stronger building codes reverberate after a disaster, and stricter enforcement becomes the siren call. But there are few improvements if private owners and builders view these codes as yet another hurdle to overcome, or if officials are corrupt or complacent. Like any regulation, codes are also susceptible to capture by vested interests.

… Insurance invariably draws in the government—as regulator, as provider (in many countries), or as reinsurer—inevitably adding a political dimension. This often results in attempts to lower the premia through subsidies (as with flood insurance in the United States), or, conversely, to favor insurers by keeping premia high or keeping out competition. An inappropriate premium has adverse effects that are difficult to rectify later: too low a premium encourages construction in hazard-prone areas (vacation homes in Florida).

… [Foreign] aid also has a role in prevention, but it can be double-edged: while some aid is warranted, it can also give rise to the Samaritan’s dilemma. Some observers have noted the disincentives donor programs can create—they can, for example, erase a country’s incentive to provide its own safety nets…. Some new but not very strong evidence suggests that post-disaster aid reduces prevention.

… people without security of ownership (this includes renters) will be reluctant to incur the expense of prevention—even if they know the benefits—because they would not benefit if evicted. Insecure ownership is widespread, and the country spotlight on Turkey illustrates the prevalence of buildings without permits, often on land to which they do not have clear title. Similarly, landlords would not incur the expense if rents were controlled or rent increases were restricted.

… If property values reflect hazard risks correctly, people can make informed choices based on prices that guide their decisions on where to live and what prevention measures to undertake.

… where markets function, prices tend to reflect hazard risk.

… Prices incorporate a lot of information—even about hazard risk, as just shown—and people make better decisions when markets are allowed to function. So, the importance of making hazard risk information available cannot be overemphasized. Perhaps because of this significance, the political will to not have information on rising levels of risk publicized is often strong. For example, even though FEMA in the United States has updated coastal flood maps for the U.S. Gulf, it cannot get coastal communities to accept them because the information would reduce property prices.

… Important markets have been smothered in many countries, sometimes inadvertently. … Buildings in Mumbai collapse during the heavy monsoon downpours because they have deteriorated for decades and because of feeble attempts to improve the situation. Rent controls in Mumbai may have initially benefited tenants at the expense of landlords, but over time everyone suffers. Rent controls cause landlords to forgo maintenance and neglect their properties, and tenants not only live in dilapidated buildings but die when they collapse in heavy rains.

… What can governments do? Get land and real estate markets to work. This can go a long way to inducing people to locate in appropriate areas and undertake prevention. Markets cannot work when transactions are taxed at prohibitive rates.

… But as with many regulations, vested interests sought to use [building codes] to their advantage: brick-layers in California—threatened by newer emerging technologies (steel and reinforced concrete)—prevailed in drafting the 1933 code, even though unreinforced brick buildings are dangerous in seismically active areas.

… Corruption and safety. Detailed systematic data are difficult to find, but some descriptions of disasters note that publicly owned buildings collapse while private buildings of similar size and vintage remain standing. The engineering and architectural history of San Francisco notes that many large hotel and bank buildings survived in 1906 while the City Hall did not. Similarly, news accounts in 2008 note that government schools in Sichuan collapsed, while commercial buildings of the same size and vintage nearby did not. Corruption, the usual suspect, is unfortunately common, especially in public construction.

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