Incentives for Ex Ante wildfire risk mitigation in the wildland-urban interface: The relationship between contingent wildfire insurance and fuel management subsidies

Contingent wildfire insurance and fuel management cost-sharing programs are becoming more prevalent in western states. This paper develops a model to examine the incentive effects of these two mechanisms for private investment in wildfire risk mitigation. The model shows that contingent insurance contracts strengthen incentives for risk mitigation relative to pooled contracts and subsidies induce more risk mitigation effort by reducing margin private costs of mitigation. With pooled insurance contracts, individuals in low-risk areas subsidize the premiums of individuals living in high-risk areas, inducing too much development in high-risk areas. Subsidies can improve incentives for risk mitigation, but they also may induce excessive development in high-risk areas. Our model shows that because high-risk property owners have weak incentives to mitigate their own private risk, cost-sharing programs can be utterly ineffective at worst or extremely costly at best for inducing even second-best fuel management incentives. In contrast, contingent insurance contracts have the capacity to improve incentives for private risk reduction, and also improve the cost effectiveness of subsidy programs. The effects of these two mechanisms on development in fire-prone areas is ambiguous, but the model provides insight into the conditions under which overdevelopment is reduced with the joint use of contingent insurance and subsidy programs.