Hurricane Harvey was a tragedy. It also has the potential to have a considerable economic impact on both the economy of Texas and on the broader U.S. economy. There are also material implications for both commodities and insurance markets.
Early estimates put property damage at between $30 billion and $100 billion, 0.2%-0.5% of gross domestic product (GDP). Compare that to Hurricane Sandy, which caused $70 billion of damage (0.4% of GDP at the time) and Katrina $110 billion (0.8%).
However, only some of this will be visible in the main economic indicators. There is likely to be a sharp but temporary hit to demand, showing up in weak retail sales, industrial production and jobless claims numbers. The third quarter GDP number could be 0.2-0.3 percentage points weaker than it would otherwise have been. The spike in gasoline prices also looks likely to boost consumer prices by as much as 0.3 percentage points in September.
Later, the rebuilding effort could actually be a larger but much more diffused boost to demand and therefore the level of GDP. Whether there is a lasting impact on GDP after this down-then-up pattern depends on the extent of permanent damage to infrastructure, which as things stand appears material.
Meanwhile, Harvey may have lowered the chance of a government shutdown and failure to raise the debt ceiling. Congress may need to pass an appropriations bill for disaster relief funds, and also needs to re-authorize the National Flood Insurance Program by end-September. Lawmakers may tack on legislation to fund the government and raise the debt ceiling at the same time. Opposition to a combined bill could be much reduced, given the crisis in Texas.
Energy and insurance market impact
The implications of Harvey striking the heart of the U.S. energy market have been felt far and wide. Over one-third of U.S. refining capacity had been shut down. The U.S. Department of Energy released 1,000,000 barrels of crude to Phillips 66’s Lake Charles refinery to help fill the gap.
Refining capacity was reduced enough to partially close the Colonial pipeline, which delivers gasoline and other products from Houston to the Northeastern U.S. The upshot is that gasoline prices jumped 30 cents in one week. Traders have booked 20 tankers of European distillates, including gasoline for U.S. delivery to take advantage of price rises.
Attention has also focused on who gets the bill for the catastrophic damage. Typical residential home insurance covers wind and rain damage, but not floods. There are federal insurance programs that cover flood damage, but early indications are that homeowners could bear a substantial portion of the economic cost of Hurricane Harvey.
By contrast, about 80% of car owners purchase comprehensive auto insurance (there are 23 million vehicles in Texas), which does cover flood damage, and most commercial property insurance contracts cover flooding and business interruption, shifting these costs to insurers.
There will be much debate in the insurance markets as to whether this tragedy will lead to insurance rate rises. Previous large insurance events such as 9/11 or Hurricane Katrina ate into insurance companies’ capital reserves. But if the claims on the industry are lower than the value of any future rate rises, then for those who can still supply capital to it, these events can result in higher returns.
This expectation of the mix between insured and uninsured losses currently looks likely to make Harvey an “earnings event” rather than a “capital event” for the insurance industry. While in the short term this may be helpful, the outlook is therefore likely to remain for excess underwriting capacity, low investment returns and continued pressure on insurance rates (good news, of course, for the buyers of insurance).
The broader macro-economic (and political) implications of Hurricane Harvey may take some time to become clear. Similarly, estimates for the cost of the flooding continue to rise and it may be some time before there is clarity on the final bill - or indeed who will be the recipient of that bill.
Image credit: Handout / Getty Images News