The Hindu Business Line : The economics of natural disasters

INDIA HAS been visited by natural disasters quite frequently in recent times — the latest being the earthquake in the Kashmir region that affected thousands of people, and the floods in different States over the last three months.

With the timing, the extent or intensity and the frequency of natural disasters wholly unpredictable, it is crucial to work out strategies to minimise the material and human damage.

Natural disasters have economic, political and social implications. When natural disasters occur, governments — local, provincial and central — come to the rescue of the affected but in a majority of cases they are criticised for the delayed response, for insufficient help or for not helping the most needy — usually women and children, often rendered homeless and left without any help.

Very rarely do governments point to Budget constraints as coming in the way of helping the victims of natural disasters. But they also call for voluntary contributions from the public and from corporate bodies and at times offer the contributors fiscal incentives.

Tax increases or new imposts are, however, generally not advocated to meet the costs of particular natural disasters. But donations are often made tax-deductible.

Where necessary, governments cut down or defer certain expenditure to divert funds to meet the immediate costs of natural disasters. The expenditures incurred immediately after the disaster are in the nature of grants and for maintenance of law and order.

The fiscal aspect is only a part of the economics of natural disasters. A corollary to natural disasters is asset loss. Such losses are sustained by private individuals, shops, and private and public establishments in varying degrees.

Let us take the case of material losses of individuals, shops, and private and public sector production units. Immediately after a disaster, it is necessary to provide the affected food and shelter, medical help and money for meeting the daily needs of essential goods. Governments provide relief with their own personnel and with the help of NGOs.

In general, the affected region is expected to have limited supplies of essential goods and essential services but the shortages are made good by airlifting goods and by large human aid from private sources and from abroad. The apparently high demand for essential goods and services may not, therefore, translate into high prices.

It is the medium term — in the reconstruction/rebuilding phase — that is crucial from the economic point of view. Reconstruction would not be possible without government allocations for expenditures to mitigate the effects of disasters and without injection of liquidity. Taking care of primary health and education facilities, child-care, and homes for women would be governments' duty. But it is here that leakages and misgovernance are said to be high. This problem would have to be tackled by adopting accountability principles and by better performance audit.

Provision of additional bank credit, mainly for investment and for supporting working capital purposes, together with government expenditure would enable the use of labour for reconstruction. But this would not lead to an increase in the employment rate. For, the labour that would have been spent productively had there been no disaster would in effect be used for the reconstruction.

But if production units are destroyed or badly affected by natural disasters, reconstructing them would take time. It would mean no output from such units for some time. In the meantime, more money would have been spent. This would, in turn, lead to a rise in prices. This situation would exist at least till the factories re-commence production.

The medium-term recovery should be managed efficiently. Is it enough to attain the pre-disaster level of economic activity with the pre-disaster investment rate? Should not one insure against nature's shocks by making the best effort to realise a higher rate of growth than what was recorded before the disaster? Is it not true that such a strategy is helpful because the impact of natural disasters is empirically found to be limited in richer than in poorer economies?

Natural disasters provide an opportunity to tackle these questions. One can strategise recovery by deliberately replacing old factories and production units with modern capital equipment. Such a technological advancement would, as the latest endogenous growth theories suggest, result in higher productivity.

This, in turn, would raise growth contemporaneously. If the same approach is persevered with — that is, technological shocks are repeated in the subsequent periods — the trended potential output growth would also move up.

The technology shocks often require investment rates higher than the trend. This would imply that the domestic savings rate would have to go up or the foreign savings inflows would have to be transformed into investment. Where the domestic savings rate goes up, there would initially be a decline in consumption but it would quickly be optimised once the medium-term growth moves up. To overcome the ill-effects of natural disasters, it would be useful to have an idea of the probability of occurrence of such events. This would help people have disaster insurance rather than face uncertainty, post-facto. For this, insurance companies need to come out with appropriate products and be transparent about their benefits, the procedures for reimbursements and the premium payments.

If the premium is high or if the procedures for getting insurance benefits are cumbersome, there will be no takers of disaster insurance.

Their public information notices should be friendly and easily accessible both through the Web sites and the press. The regulators should have disincentives in place where disaster insurance products are sold without providing adequate information to the insuring individuals and entities.

(The author, a former Executive Director of the Reserve Bank of India, can be contacted at asurivasudevan@hotmail.com)

Article E-Mail :: Comment :: Syndication :: Printer Friendly Page