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Disaster loan reform waiting to happen.

Article Excerpt
The Small Business Administration's Disaster Assistance loans are, collectively, the federal government's primary disaster-relief program. The government-financed loans help not just small businesses, but also individuals, businesses of all sizes, and nonprofits to reestablish after a disaster. Unfortunately, the program's performance has been mediocre, to say the least. Congress is now considering possible reforms, however they are modest in scope and the program will likely continue to underperform for disaster victims.

AIDING CITIES, NOT PEOPLE Congress authorizes the SBA to provide low-interest loans to disaster victims contingent upon a disaster declaration from the president or the SBA administrator, and a demonstrable ability for the recipients to repay the loans. The loans can be used to repair or replace real estate (up to $200,000) and personal property (up to $40,000), as well as to reestablish businesses and nonprofit organizations regardless of size (up to $1.5 million). Loans can be for a period of up to 30 years. The SBA has more relaxed underwriting standards than private-sector lenders, which allow it to lend money to riskier borrowers.

What restrictions should be placed on the loaned funds? Private insurers provide clients with checks after the destruction of an insured asset like a house or car, and it is left to the recipient to decide whether to purchase another car or house, or do something else with the money. In contrast, public disaster assistance mandates that the loan be used to rebuild in the same location. For example, in the wake of the devastating 2005 Gulf Coast hurricanes Katrina and Rita, policymakers momentarily considered dispensing financial aid directly to victims, to be used at their discretion. However, the possibility that many recipients would use the money to move out of the long-impoverished and hurricane-prone area resulted in the idea's quick abandonment. The federal government's relief effort was instead geared toward rebuilding New Orleans and encouraging its residents to stay.

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Because politicians gain reelection from specific places, they oppose disaster-relief policies that allow geographic mobility. They want individuals to stay and rebuild in the same area, and feel gratitude to their local representatives. The result is inefficient location decisions, for two reasons: First, residents and...

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