Wharton's Howard Kunreuther, Jeffrey Czajkowski and Gina Tonn discuss how policy changes can improve infrastructure resilience and reduce reliance on federal aid.

America’s transportation network is vital part of the country’s economy, accounting for 9% of the gross domestic product. Yet this complex web of roads, bridges, waterways, railroads and airports – essential to moving both people and products — has long suffered from financial neglect. The amount of taxpayer money needed to build, repair and maintain a single piece of infrastructure, especially one that has been damaged or destroyed by a natural disaster, can run into the billions. The sticker shock can make such projects politically unpopular for elected leaders who have to justify the expenditures to the public. A vicious cycle is set up, where managers put off repairs, make do with what they have and wait for a federal payout when disaster strikes. But there is a better way. 

A new issue brief from the Penn Wharton Public Policy Initiative offers some solutions that policymakers could pursue to shore up U.S. infrastructure, including more private insurance to fill the federal funding gap. Gina Tonn is a post-doctoral researcher with the Wharton Risk Management and Decision Processes Center. Jeffrey Czajkowski is managing director of the center. Howard Kunreuther is co-director of the center as well as a professor of operations, information and decisions at Wharton. Their paper, “Policy Options for Improving the Resilience of the U.S. Transportation Infrastructure,” relies on a careful analysis of technical reports and other literature on infrastructure resilience, and direct interviews with managers in the relevant fields.

“Reducing the need for taxpayer money for future disaster relief and lessening community disruptions due to disasters should be top priorities for policymakers, particularly given the high damage values associated with recent weather and climate events,” they write in the paper. “Both risk-based insurance and physical resilience improvements could be part of a strategy to reduce taxpayer expenditures and disruptions, but there is a need for support from key interested parties including private and public infrastructure managers, insurance companies, and policymakers at the local, state and federal levels.”

The researchers have offered the following four policy changes, which they believe can improve infrastructure resilience, reduce reliance on federal aid and help communities recover faster from future disasters: 

  1. Improve data collection and analysis: Better data is needed to evaluate risk and develop new insurance products, the researchers said. The federal government could take the lead in this endeavor by funding research, aggregating data and serving as a clearinghouse for information to be shared.
  2. Amend the Stafford Disaster Relief and Emergency Assistance Act: Passed in 1988, this law authorizes federal disaster response activities. But data shows that private transportation systems tend to have better resilience because their managers do not rely on federal dollars as a risk-management strategy.  The researchers suggest amending the act to require a disaster deductible that could be met through credit for having mitigation procedures, or allowing catastrophe bonds or risk-reduction projects to count toward compliance.
  3. Improve Cyber Risk Management: Managing cyber risk is one of the most difficult areas because the threat is constantly changing, so the full picture still is not clear. The government could help by setting higher legal and regulatory standards for cyber risk management.
  4. Subsidize Loans for Resilience Projects: The maintenance and replacement of deteriorating infrastructure could be incentivized if the federal government subsidized low-interest, long-term loans. “While an infrastructure system might not be able to afford a $5 million resilience improvement, with a 30-year loan at a 3% interest rate, their annual cost would be about $250,000, which could be deemed affordable by management.”

Tonn, Czajkowski and Kunreuther spoke about their research on the Knowledge at Wharton radio show, which airs on Wharton Business Radio on SiriusXM. (Listen to the full podcast using the player above.) 

An edited transcript of the conversation follows.

Knowledge at Wharton: Why is it so difficult for the United States to fix its infrastructure?

Gina Tonn: Infrastructure in the U.S. is underfunded, and maintenance and upkeep don’t happen as often as they should or to the extent that they should. This can pose a problem in normal conditions, but it poses even more of a risk when there’s some kind of disruption or disaster that happens.

Jeff Czajkowski: At the Risk Center, we focus a lot on natural hazards. You could just think back to last year and the record-breaking losses in 2017. Although these are low-probability events, they happen often enough — not in any one area, but over time and space. They have a major impact, and these types of disruptions are becoming more and more normal.

Knowledge at Wharton: Hurricane Harvey, which hit Houston last year, is an example of a natural disaster that caused major structural damage. We saw images of flooded interstate junctions. The government estimated the damage at $126 billion, second to Hurricane Katrina.

Czajkowski: What you’ll see a lot on the news is the impact to people. You might see clips of things that have happened to infrastructure. But when that money comes down the road later on from the federal government, the majority of that money doesn’t actually go to the people. It goes to public infrastructure, private infrastructure. I don’t have the exact numbers for Hurricane Sandy, but let’s say it was about a $100 billion worth of recovery efforts there. Probably about two-thirds of that went to more infrastructure-related things and less to homeowners.

“The fact is we are in a new era of catastrophe. These events are now happening much more frequently, so we have to think about the appropriate policies that we need to deal with them.”  –Howard Kunreuther

Howard Kunreuther: The fact is we are in a new era of catastrophe. These events are now happening much more frequently, so we have to think about the appropriate policies that we need to deal with them. The two things that we talk about in our issue brief is that there is a role for insurance to play in helping to protect [against disasters]. But much more importantly, it’s tying the insurance to mitigation and to risk reduction. And there we have some challenges.

For one thing, we have the Stafford Act, which indicates that there is a large amount of money that will go to public infrastructure if it is a federally declared a disaster. When you have that, you also immediately have the notion that, “Well, why should I insure if I know I’m going to get funded?” Sometimes you don’t even get that money. Sometimes the money has to come from other sources. Secondly, there’s a long delay in actually getting that money forward to repair the infrastructure. That was clearly the case in Hurricane Sandy. It took years for them to get the money. Thirdly, and most importantly, the Stafford Act has never encouraged mitigation. It hasn’t prevented it, but it says you can’t necessarily do things that improve the structure.

Knowledge at Wharton: Can you explain the Stafford Act a little bit more?

Kunreuther: The Stafford Act is an act of Congress that says we will give 75% at least to public infrastructure if this is a presidentially declared disaster. In the case of Katrina, it was 100%. And they can raise that amount. The questions are, who gets it? How long does it take to get it? And does it encourage mitigation? It doesn’t prevent money from improving the structure, but it basically says repair it to where it previously was.

Czajkowski: These recovery dollars that come in after event has occurred — as Howard mentioned, what we’ve seen in recent times is there’s a delay in that funding. But over time, there’s thinking that more and more of this money is going to become less and less available.

The Department of Homeland Security sponsored this project for us. This is an important issue for them because they realize that we can’t keep spending on the backside of these events. We need to try to get people to be better insured, or as Howard mentioned, to couple that with mitigation before the events happen.

Tonn: I would add that the issue here is the spending but also the impact on communities. Transportation is really important to how a community operates — the movement of people and goods in all different forms. When there’s a delay in getting transportation systems back up to speed after some kind of disruption, it really impacts people’s livelihoods and their lives in the community. This delay that we’re talking about can create problems in communities and can cause business and personal impacts.

Knowledge at Wharton: Amtrak is an example of an infrastructure system that is quasi-public. Amtrak is important for people traveling in the Northeast Corridor from Washington, D.C., to Boston, Mass. When Hurricane Sandy hit, the station in Trenton, New Jersey, was underwater for about a week. What does Amtrak need to deal with disasters like that?

Czajowski: They’re in a tough spot, right? Last year, we had four nor’easters and they ended up shutting down their system for at least one of those days. They need to have insurance and risk mitigation in place. They own a lot of these rail lines that go through a number of cities, and it’s a big system for them to manage. They don’t necessarily have a redundancy that they can put into place. If a rail line goes down, it’s not like there’s another rail line next to it that they can use. If you think of airports, you can reroute to other airports.

Tonn: In the Northeast Corridor, you’ll notice that a lot of Amtrak’s infrastructure is situated very close to the water. Sea level rise and climate change is expected to have a particularly big impact on that. Resilience is something they’re really starting to think about, and [they are] trying to figure out how they can keep minimizing delays as weather conditions impact their rail lines.

Kunreuther: They’re quasi-public, so they may possibly be expecting funding from the federal government, and they may not get it. They may have to do this on their own. That’s part of the case study that the center has done with Amtrak that raises a lot of issues with respect to making sure before the next disaster that they understand what they’re responsible for, what they aren’t responsible for, and whether they can get insurance.

Knowledge at Wharton: What are the issues that airports and airlines need to consider?

“There’s a lot of work to be done in figuring out how to prevent cyberattacks and how to insure against them.” –Gina Tonn

Tonn: One thing that we touched on in our research that has been impacting perhaps air travel more than other types of transportation is cyber risk. Air systems are reliant on IT systems to route their whole network and to load passengers and to manage all that they do. An emerging risk that they’re dealing with now is preventing cyberattacks and protecting their information. There’s a lot of work to be done in understanding and figuring out how to prevent cyberattacks and how to insure against them as the risk continues to increase.

Knowledge at Wharton: Do you think there needs to be an increase in public/private partnerships to address the lack of government funding for infrastructure?

Kunreuther: We have an interdependency issue that really may require public/private partnerships. When you have an airline that goes out or that can’t function, that impacts the whole system. It also can cause business interruption because the transportation system isn’t functioning. When you raise the issue of public/private partnerships, you can talk about private insurance. That’s certainly what we’ve been focusing on as a part of this issue brief. But you’re also going to have insurers who are going to be very interested in standards being enforced and protected. So, there really is a linkage between these two in a way that I think we have to pay attention to.

Knowledge at Wharton: Many insurers already are being pressured from a financial perspective because of payouts for coverage of natural disasters. I’m guessing the costs have multiplied in the last decade compared with what we saw back in the 1970s, 1980s, and 1990s, correct?

Czajkowski: Right. They have their own ways of offsetting some of the tail-end of that risk through re-insurance or other types of products. But I think the key issue here in terms of the public/private partnership, and one thing that we talk about as a recommendation in the brief, is the availability of information, better data around these types of risks, better sharing of that information among these different entities. To your point, from an insurance perspective, what that would allow for is better underwriting of the risk from the insurer’s perspective. The more data that they have available, they better they can model these types of risks and what their impacts would be to the system. That allows for better risk management through insurance, and we really want to couple that with mitigation.

In terms of public/private partnerships, there are information sharing and analysis organizations (ISAOs) that have developed in the cyber arena. Homeland Security has advocated for these, where these groups can bind together and agree to share sensitive information around cyber threats or other things, so that the data sharing can go on. Then you can start to better manage the risks.

… A lot of this information is very sensitive, and infrastructure managers need to keep a lot of their information to themselves to prevent it from getting into the hands of a terrorist or some other malicious party. Then on the insurance side, there are regulations they have to deal with, maybe of an anti-trust nature, that prohibit them from sharing certain types of information. So, it’s important that there be some organization that can help facilitate that information sharing.

Knowledge at Wharton: There are structures that are vulnerable that most people don’t even think about. In the brief, you mention locks and dams as an example. Waterways are an important component of the economy because they are essential to the distribution of products.

Czajkowski: There are a lot of intricate parts within these systems. It’s not as though these infrastructure managers don’t have this on their radar screen. It’s just coming back to how we started. They’re underfunded typically, and they have a lot of other risks that are more immediate for them. They have more day-to-day liabilities to deal with, if you think of transportation systems. But you’re dealing with the possibility of this major event happening, as opposed to, “Well, I had 10 people slip and fall in my train station today, and I need to have liability coverage for them on the flip side.” How do you think about these events that have these really big impacts but have lower probabilities? And how do you better prepare for those?

Knowledge at Wharton: What about the role of state and local government?

“How do you think about these events that have these really big impacts but have lower probabilities? And how do you better prepare for those?” –Jeffrey Czajkowski

Kunreuther: I think the point that Gina made earlier about communities being a really important part of all of this is critical. Local government has to play a role. The question always comes down to who pays. Who is going to be responsible at the end of the day? If you have the Stafford Act, and people may even misperceive what the Stafford Act is going to do, you’re going to have very little incentive on the part of local governments and other groups to actually provide a better system. I think you really have to have a clarification on who is going to pay and have some notion of where there may be responsibilities at the local and state levels. We’re obviously moving in this direction today. We have a Congress and president who are saying, “We really want to have less government.” What does that mean? Maybe less federal government. Maybe more local and community responsibility. How do you get that?

There’s one other point that relates back to what Gina indicated in the context of the information challenges. This is a project that really is supported by the Department of Homeland Security. If we have the department as a central vehicle here, there may be a role of sharing information that can come out through the federal government. We see this in the National Flood Insurance Program. There’s no reason why one couldn’t think about ways that the federal government and DHS could help provide information, particularly if we’re dealing with security and other issues. There may be ways to provide that data in such a fashion so that you really could get the kind of public/private partnerships that you’d like to see.

Tonn: Yes, I think this is really a role that the federal government could play in facilitating these partnerships to share information. To emphasize some of the benefits of sharing this information, it allows for new insurance products and better insurance products that improve the resilience of infrastructure systems. The more information is shared that can help us to understand the risks that these infrastructure systems are facing, the better we can identify and implement the mitigation measures.

Czajkowski: A big focus of this brief was on this notion of having insurance in place. We’ve seen this gap with the critical infrastructure and not having the proper amount of insurance in place…. A big focus on that was trying to meet up the supply and demand of insurance for infrastructure entities. But as the project has evolved, it has focused more: Insurance is just one component of resilience. When you’re thinking about resilience, it’s not just federal. It’s state and local. It’s not just going to be government agencies; it’s going to be Amtrak interacting with SEPTA (Southeastern Pennsylvania Transportation Authority). We would classify this as kind of governance within these entities, that they understand and that they’re communicating with their communities, with the groups that rely on them.

Kunreuther: The hardest thing is to get people to think about this before the disaster occurs. That is a hard challenge, because everyone’s agenda is such that this is in the back of their minds. They are hoping it’s not going to happen. They don’t want to think about it. We have found [this problem] in every discussion we’ve had on this project and other projects that the Risk Center has done. How do we get everyone to understand that there are economic incentives now for doing these things, so that we can actually have the kind of dialogue as to what would happen if the George Washington Bridge goes under?

Czajkowski: We see insurance playing a key role in that activity — to get organizations to think about insurance as not just something that sits on the shelf in case something bad happens, but that also helps them to actively manage risk…. Insurance and mitigation need to go hand in hand.