Momentum for Insurance; No Panacea for Tackling Climate Risk

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David Bresch has headed the Sustainability & Political Risk Management Unit at Swiss Re in Zurich since 2008, and he has lectured on climate adaptation and risk insurance as an emerging tool to provide a kind of last line of defense for property owners from catastrophic climate damage. As nearly 200 nations headed into the Paris talks that concluded in December with the first truly global climate deal, leaders from Swiss Re and nearly 80 other companies including Toshiba Corp., Dow Chemical Co. and Johnson Controls penned an open letter calling for the most ambitious climate deal possible.

Bresch spoke with Dean Scott, Bloomberg BNA's senior reporter for climate change, on the growing interest in climate risk insurance from insurers as well as reinsurers—essentially companies that insure the insurance companies against catastrophic risk. Bresch discussed the degree to which the Paris Agreement paves the way for expanded use of such insurance to protect farmers and others in developing nations vulnerable to rising sea level and catastrophic storms as well as increasing interest in using risk insurance within developed nations.

The Paris Agreement was reached at the end of a year that saw increasing interest in climate insurance from world leaders. In June, the Group of Seven leading industrialized economies pledged to extend such coverage to 400 million of those most vulnerable to climate impacts by 2020; President Barack Obama unveiled a $30 million pledge in Paris on Dec. 1 to support insurance initiatives under three regional efforts: the Pacific Catastrophic Risk Assessment and Financing Initiative; Caribbean Catastrophic Risk Insurance Facility; and the African Risk Capacity program. This interview was edited for clarity and length.

By Dean Scott

Bloomberg BNA:

Let's start with some background on just what climate risk insurance is, and what it isn't. And for readers who may have little background in the insurance industry, just what is the distinction between a traditional insurance company and a reinsurer such as Swiss Re?

David Bresch:

A reinsurer, essentially, insures insurance companies. Now of course insurance companies directly insure the risks for their clients, from the single homeowner to large corporate [entity]. But a single insurance company, when it comes to natural catastrophe insurance, does reach a certain limit on the ability to diversify risk. And an individual insurance company also runs the risk of heavy accumulations [of claims] for example, if a hurricane hits a stretch of the U.S. coast, and there are just a few insurance companies predominantly active in that state. That can be a very big blow to their balance sheets.

Bloomberg BNA:

So is this tool particularly attuned to the specific challenges of climate risk, particularly given the high value of economic value and property losses that are possible?

Bresch:

In essence, the reinsurance of natural catastrophes works extremely well because natural catastrophes are concerns that are scientifically well understood. Natural science already tells us a lot about the risks, for example, the number and intensity of hurricanes, the intensity and frequency of earthquakes—you name it; we have a deep scientific understanding of these [traditional] risks and we can quantify those risks today.
But then comes climate change aggravating those [risks], acting to increase both the frequency and severity of those events. So there might be more storms in some areas, or there might be more flood events in other areas, as well increased intensity.
For example, a strong storm could be further strengthened due to climate activity, i.e. the atmosphere is warmer, there is more energy in the atmosphere—and therefore you have more rigorous storms. A warmer atmosphere also can hold more moisture, therefore there are [heavier] downpours, there is more precipitation, and with that precipitation, stronger or heavier floods.
Now, as long as this happens by chance and [impacts are] distributed across the globe, the primary condition for reinsurance—namely that things happen by chance—is maintained and risks remain insurable. In essence, climate change does change the intensity and frequency of events, and therefore it does change the price for insurance. But it does not really endanger insurability [today].
Now, the issue is if you exceed something like a 2-degree [Celsius] threshold—where the climate is warming more than 2 degrees compared to preindustrial levels—we might get into a situation in some areas where what were once changing weather patterns become the norm. And a storm that was once a one-in-50-year event, say, happens every five years. And at that point it gets rather pricey to insure [against damage] because the premium one has to pay is proportionally increasing [with the frequency of weather events]. And there comes a point when you cannot diversify risk. At some point the diversification benefit of insurance becomes smaller—and you might even reach the limits of insurability.

Bloomberg BNA:

The 2-degree threshold (3.6 degrees Fahrenheit), of course, is the goal agreed to under the December Paris Agreement: to keep global temperatures from going above that point this century but also pursue efforts to halt temperature rise to no more than 1.5 degrees Celsius (2.7 degrees Fahrenheit) compared to preindustrial levels. How does Swiss Re view this additional goal, if you will, of holding temperature rise, if at all possible, to just 1.5 C?

Bresch:

We tremendously welcome the ambition level that came out of Paris on this agreement, and the pledge to stay below the 1.5-degree target if at all possible. Because that will definitely keep the world in what I would [call] an even easier to insure state [than under 2-degree temperature rise].

Bloomberg BNA:

In September 2014, Swiss Re's chief executive officer pledged $10 billion through 2020 to expand capacity and expertise to help specific regions spool up capacity on climate risk insurance. Can you talk about the objectives here and how those efforts mesh with the pledge President Obama made in Paris, i.e. the $30 million that is to go to the African Risk Capacity, the Caribbean Catastrophe Risk Insurance Facility and the Pacific Catastrophe Risk Insurance Pilot program?

Bresch:

Swiss Re pledged this [$10 billion] during the September 2014 UN General Assembly in New York to support 50 countries and sovereigns and sub-sovereign governments [such as cities] to better understand these risks and figure out how to best manage them … the offer for $10 billion is to improve risk bearing capacity. We currently work with many of these constituencies, some of them [in coordination with] the Rockefeller Foundation's 100 Resilient Cities initiative [launched in 2013 to bolster resiliency to climate and other threats]. Of the schemes you mention, it pretty much all started with the Caribbean Catastrophe Risk Insurance Facility, or CCRIF. The Caribbean countries in 2007 and 2008 and 16 countries in the region basically figured, ‘if we pool risk across the region, the economics are more [attractive] for seeking insurance or reinsurance to cover the whole region.’ Basically it's a concerted effort of these countries to bundle risk and to ensure countries have very [quick] access to capital to rebuild after an event. So if there is a downpour or a drought, there is a physical mechanism that determines the payout and there's a fast way to disburse this money and the countries can use that to better bounce back after an event.

Bloomberg BNA:

People are pretty familiar with how insurance works and how premiums must first be paid on such policies. But how do those covered by climate risk insurance collect on a policy? How do you allay concerns, say, of a farmer who may be covered by these policies but is skeptical that when the time comes—say there is flooding or other climate exacerbated activity—that they are going to be able to collect? Who is going to be their advocate for collecting on that policy?

Bresch:

In essence, we strive very hard to empower people to pay their own premium, because the premium is the face value of risk. And that also provides an incentive to reduce risk firsthand. For example, we are still running a micro insurance scheme we started in Ethiopia [in 2011] where we used a cash-for-work program established by the government. That enables local farmers to improve their [protections] so they invest in it through their own labor, say through better irrigation systems, which protect against drought and therefore reduces overall risk to their livelihoods.
That rendered these risks insurable at the lower price. And since they gained income through their concerted actions to reduce risk basically through this prevention work, it gave them the income stream to buy insurance.
Now what's still left on that table is the challenge that those most affected by climate change are normally not the ones who have created the problem … after all, it is not the small farmers who have emitted the most [greenhouse gas emissions] over the last several decades.

Bloomberg BNA:

Did agreements reached in Paris lay the groundwork for expanded use of climate risk insurance going forward? For example, there is language for establishing a “clearinghouse for risk transfer” to pool information on the use of climate insurance. [Negotiators also opted to include loss and damage as a stand-alone section in the deal to explore ways nations already being hit by climate impacts might be compensated, although it essentially bars any claim of liability on the part of richer developed nations for future compensation].

Bresch:

The decisions at COP 21 definitely help lay the groundwork for this [climate] insurance, especially in the adaptation [arena]. The agreement is a clear call to action to basically consider all tools available to better manage risk on the ground.
Now, if things are damaged, you can repair them. And repairing things comes at a cost … and in a framework dealing with damage and coping with loss, insurance does play a role. Insurance has to considered as an instrument there, and [negotiators] specifically requested in conjunction with the Warsaw International Mechanism [for Loss and Damage, launched by negotiators at the 2013 summit in Poland] that there be a stocktaking on the existing solutions in the insurance space as well as an examination of best practices. And that information is to be shared with the wider community.
Now, obviously that was primarily designed to help those most in need for countries that generally are more challenged [by climate threats]. I think that's fair. But it doesn't mean developed countries should basically bail out the others forever. There's an element of an obligation—-possibly—but there's also a recognition that fast-developing [nations] should develop in a low-carbon way. Because otherwise, over time, those [rapidly developing] nations also contribute to the climate problem and will be in the position of aggravating the situation.

To contact the reporter on this story: Dean Scott in Washington at dscott@bna.com

To contact the editor responsible for this story: Greg Henderson at ghenderson@bna.com