OFR, July 24, 2024, What’s at Stake? Understanding The Role Of Home Equity In Flood Insurance Demand
The consequences of climate change will depend on homeowners’ incentives to man-age their risk. We show that low home equity distorts borrowers’ demand for flood insurance by shifting their risk to lenders and federally backed mortgage purchasers. To isolate the causal effect of home equity on disaster insurance demand, we study flood insurance take-up over the housing boom and bust across markets with different price dynamics. Insurance take-up follows rising and falling home equity. Mechanism tests suggest that mortgage default acts as implicit insurance for borrowers with low home equity. Consequently, leveraged households do not fully internalize their climate risk.
