IMAGES of destruction and grief following Typhoon Haiyan, which hit the Philippines in November 2013, are still fresh in our minds. The New York Times ran a heartbreaking front-page story in November 2013, describing the plight of a young man in the Philippines who sustained a simple leg fracture after Typhoon Haiyan (Bradsher, 2013). Over the past 50 years, the frequency of natural disasters has indeed increased (see Chart 1). Natural disasters are more common and affect more people in developing economies (all low- and middle-income countries as defined by the World Bank) than elsewhere (Laframboise and Loko, 2012) (see Chart 2).
Advanced economies are better equipped to absorb the cost of disasters because they have recourse to private insurance, higher domestic savings, and market financing. The dollar value of disaster damage is much larger in advanced economies because of the amount and concentration of capital, but as a percentage of national wealth and output, the damage is usually much greater in developing economies. The most vulnerable members of society, both in high- and low-income countries, are the major victims of natural disasters. In the short term, economic output shrinks and the fiscal deficit worsens after a disaster.
After a major disaster, policymakers must decide whether to finance emergency spending by reducing or diverting existing spending or by borrowing. In small island states and low-income countries, natural disasters often drive up public debt. The impact of natural disasters depends on many things, including the size and structure of the economy, the concentration of people in high-risk areas, per capita income, and financial system development. In general, the government policy response could be a combination of new financing and reserves drawdown, as well as macroeconomic adjustment in the form of current spending cuts or higher taxes.
While most natural disasters cannot be prevented, our research finds that more could be done to reduce their human and economic costs and minimize welfare losses. There are several obstacles to a more holistic, preventive approach to coping with disasters. Third, emergency aid and financing can be a strong but rational incentive for developing economies to underinvest in risk reduction.
Less obviously, but still important, there is considerable room for improvement in government policy frameworks to better manage risk and mitigate economic and social costs (see table). Coordination with foreign partners before disaster strikes could mobilize external assistance for risk reduction, which is likely to earn a higher return than emergency help after the fact.


Insurance is the best way to reduce the real costs of natural disasters without raising taxes or cutting spending. These are practical top-down policy suggestions for consideration during the calm between the inevitable storms.
Nicole Laframboise is a Deputy Division Chief and Sebastian Acevedo is an Economist, both in the IMF’s Western Hemisphere Department.
F&D welcomes comments and brief letters, a selection of which are posted under Letters to the Editor. They summon up similar scenes of devastation following the great south Asian tsunami of 2004 and Hurricane Katrina, which hit the United States in 2005. In addition to the immediate direct human cost, natural disasters often exacerbate poverty and undermine social welfare.
Reporting of disasters has improved dramatically, but there has also been a documented rise in the number and intensity of climatic disasters and more people and physical assets are concentrated in at-risk areas. Developing economies rely more on sectors such as agriculture and tourism that depend on the weather. They have little, if any, savings to fund current consumption, and divesting any limited capital stock, such as livestock, lowers their productive capacity and lifetime earnings. Countries’ export potential suffers as well, which leads to larger deficits in trade and services with the rest of the world. In terms of disasters per capita and disasters per square kilometer, Caribbean countries are ranked among the top 50 riskiest places in the world (Rasmussen, 2006).
In the Eastern Caribbean Currency Union, the debt-to-GDP ratio rises by almost 5 percentage points on average the year a storm strikes (Acevedo, 2013). Recent studies find that higher skills, better institutions (for example, local governments, health services, police, rule of law), more openness to trade, and higher government spending help lower the economic costs of a natural disaster (Noy, 2009).
We found that there are steps the government can take before a disaster to mitigate the impact on people and output, particularly in countries very prone to disasters for geophysical or meteorological reasons.
First, many low-income countries lack the budget resources and technical and human capacity to prepare for disasters or to build levees or retrofit offices and homes to withstand storms.
In fact, because such financing is offered at such low interest rates, it may not make sense to spend scarce resources before a disaster; the expense may not justify the expected return.
The first imperative of public policy should be to save lives, but efforts to reduce economic costs, which carry other human and social costs that can last for generations, are also important.


In at-risk regions, policymakers should estimate the probability of shocks and identify local vulnerabilities. Some innovative instruments have surfaced in recent years, but the international community could do more to pool resources and ideas to help vulnerable countries. Weighted by land area and population, small island states suffer the highest frequency of natural disasters. They have limited labor skills and opportunity for mobility, and indirect effects such as inflation hurt them disproportionately. The impact can be alleviated by foreign aid and investment, but after large disasters the growth and income effects usually persist. Better institutions and a better-educated population help ensure a capable and efficient disaster response, good allocation of foreign aid, and proper enforcement of such structural measures as building codes and zoning laws, which helps reduce damages when they hit.
Deeper credit markets provide quicker access to local financing to fund recovery, minimizing the need for foreign borrowing, which can take longer to access or even be completely out of reach. In such regions, a policy framework that explicitly takes into account the risks and costs of disasters would allow the government to better prepare for, and respond to, natural disaster shocks.
When the economic costs are lessened resources are freed up for disaster preparedness, resilience, and mitigation, which can save lives in the future. The Caribbean Catastrophe Risk Insurance Facility (CCRIF) is one such example and has recently supported immediate relief to Caribbean countries.
Instead, policymakers and their foreign partners should integrate new and better ways to manage risk and reduce costs ahead of time. Countries with deep financial systems and high insurance coverage fare the best, because the risk is transferred to outsiders (even in the case of local insurers through reinsurance policies), so investment and reconstruction place little or no extra fiscal burden on the state. Such preparation falls under the key pillars of risk assessment and reduction, self-insurance, and risk transfer (see table). Output collapsed and the debt-to-GDP ratio rose by 15 percentage points in just one year, to 95 percent.



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