Puri | California’s home insurance crisis demonstrates the folly of direct democracy

Opinion by John Puri
Jan. 23, 2025, 7:41 p.m.

Americans prefer not to think much about insurance, as it is one of the few products they purchase in hopes of never using. Yet many will soon have to, as tens of thousands of Los Angeles residents look to insurance companies to compensate for homes devoured by wildfire. Those claims — estimated to total over $20 billion and counting — may push California’s teetering property insurance market into ruin. Blame not the insurance executives of today, but the California voters of 1988. They unwisely believed that the complications of insurance markets could be smoothed out by a popular vote.

The Los Angeles fires are not so much creating an insurance crisis as they are exposing one that has festered for years. Between 2020 and 2022, California insurers declined to renew 2.8 million homeowner’s policies, of which 531,000 were in Los Angeles County. Nonrenewals resulted in more than 100,000 Californians losing access to private home insurance in the past five years, including one in every seven residents of the now-destroyed Pacific Palisades. Eleven insurance carriers have either constricted their coverage in California or left the state altogether.

Home insurance premiums are supposed to reflect risk — the higher the chance of damage, the higher rates should be to cover expected claims. Yet in California, with its regularly scheduled earthquakes and wildfires, the opposite is true: Home insurance costs far less than what it ought to cost. Los Angeles households pay half as much for insurance as the national average, despite the city’s home values being more than twice as high and, of course, it currently being on fire.

The cause of this dysfunction is California’s exceptionally stringent regulations on home insurance, which function as de facto price controls. Insurers have been prohibited from using forward-looking risk assessments to calculate rates, forced instead to use only historical data — climate change be damned. They cannot incorporate the cost of reinsurance into premiums either, and every rate increase must win approval from an elected commissioner.

Combined, these rules have made California the national leader in “rate suppression,” or the difference between what premiums actuarially should be and what they really are. In Los Angeles, homeowners pay nearly a third less than other areas with similarly high risk. Because insurers must charge artificially low rates for properties in high-risk areas — paying out $1.09 for every dollar received in premiums — they are incentivized to discontinue coverage. Hence the thousands of Los Angeles homeowners whose policies were dropped before the fires. For those who can retain coverage, deceptively low premiums obfuscate the danger of residing in a tinderbox.

California’s perverse regulatory regime derives from the state’s habit of using ballot propositions to resolve tough political questions. In 1988, following a surge in rates, voters approved Proposition 103, which forced property insurers to immediately cut premiums by 20 percent and submit all future rate hikes to the byzantine approval process now in place. Wildly distorted prices are the predictable result.

Proposition 103 is far from California’s only foray into direct democracy. (It was just one of 29 initiatives on the 1988 ballot alone.) The birth of ballot referendums was a trademark reform of the Progressive Era, adopted by the state in 1912. California has since surpassed all but one state in the number of propositions (444) presented to voters. In addition to wrecking insurance markets, such measures have constrained property taxes, required banks and parking garages to disclose their cancer risks and funded music programs in K–12 schools. When the people can make all manner of laws by themselves, why even have a legislature?

James Madison knew why. In Federalist No. 10, he articulated the reason America was constituted as a republic, not a pure democracy: By “passing them through the medium of a chosen body of citizens,” representative government could “refine and enlarge the public views.” Once public sentiments are cooled and filtered by a legislature, Madison wrote, they might “be more consonant to the public good than if pronounced by the people themselves.” That would certainly be true of insurance regulations, an issue whose complexity demands both deliberation and the scrutiny of tradeoffs.

Advocates of direct democracy aim to bypass the Madisonian process of refining and enlarging popular sentiments, favoring instead the direct translation of passions into law. The rise of direct democracy in western states — that portion of America farthest from the nation’s republican roots — is one of their foremost victories. It is simply bad luck that western states are also those most susceptible to wildfire.

John R. Puri is an undergraduate Opinions staff writer studying Political Science with an emphasis in International Relations and Political Economy.

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