World Bank Group Managing Catastrophe Risks of Natural Disasters at the Country Level: The World Bank Prospective Eugene N. Gurenko Senior Insurance Specialist.

World Bank GroupWorld Bank Group

Managing Catastrophe Risks of Natural Disasters Managing Catastrophe Risks of Natural Disasters at the Country Level: at the Country Level:

The World Bank ProspectiveThe World Bank Prospective

Eugene N. GurenkoEugene N. GurenkoSenior Insurance Specialist Senior Insurance Specialist

email: email: [email protected] Bank/IFC Insurance UnitWorld Bank/IFC Insurance Unit

Washington DC Washington DC April 28-29, 2002April 28-29, 2002

Distance Learning Course for Insurance Supervisors

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World Bank GroupWorld Bank GroupKey Messages Catastrophe Risk Management is an Integral Part of

Good Governance and of Best Insurance Supervision Practices

World Bank Plays an Active Role in Assisting its Client Countries in Building Effective Catastrophe Risk Management Systems

Risk Pooling and Clearly Defined Allocation of Catastrophe Risk Between the Insurance Industry and the Government can be a Effective Way to Reduce Countries’ Financial Exposures to Natural Disasters

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World Bank GroupWorld Bank GroupKey Objectives of an Insurance Supervisor:

Ensure company’s solvency, i.e., its ability to meet its claims;

Ensure the availability of insurance coverage at fair market rates for individuals and corporate users;

Meet other social and economic objectives such as raising insurance awareness, professional standards in the industry, affordability and insurance penetration concerns, etc.

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Characteristics of Catastrophe Risk

Low frequency but high severity events which endanger the financial health and solvency of insurance companies.

Frequently, in the aftermath of cat events, the industry is no longer able or willing to continue to provide insurance coverage for cat type risks (the Northridge, September 9/11, Florida Hurricanes).

Mismanagement of catastrophe risk has numerous highly adverse social, economic and political implications for the affected countries.

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Impact of the Luthar Storm in France and the Northridge EQ

on Domestic Insurers

0

10

20

30

40

50

60

71 73 75 77 79 81 83 85 87 89 91 93 95 97 99 01

Insured losses 1970-2001 Property and business interruption

natural catastrophes man-made catastrophesSeptember 11 loss (property and BI) September 11 loss (liability and life)

1992: Hurricane Andrew

1994: Northridge Earthquake

1999: Storm Lothar

2001: 11 September*

Loss ratio in California in earthquake policy for 1994: 1,200% (source Wharton)

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World Bank GroupWorld Bank GroupInsured and Uninsured Losses from Natural Disasters (in US Billions)

1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000

80

70

60

50

40

30

20

10

0

Economic losses (2000 values) of which insured losses (2000 values) Trend of economic losses Trend of insured losses

US$ 160 bn

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Impact of National Disasters on Insurance Companies

Potential insolvency Premiums raised Closed down of companies

Annual Insolvencies and Catstrophe Losses in the US

0

10

20

30

40

50

60

70

1969

1970

1971

1972

1973

1974

1975

1976

1977

1978

1979

1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

Number of insolvent Firms Total Catastrophe Losses

Nu

mb

er

of

firm

s

30

25

20

15

10

5

0

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World Bank GroupWorld Bank GroupKey Challenges Faced by the

Bank in Building Risk Transfer Systems

Lack of risk awareness at the government level and among population;

Undeveloped insurance sector; Excessive reliance on the government as

the reinsurer of last resort; Low country incomes; High degree of uncertainty with regard to

expected economic losses.

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Designing Effective Risk Management Programs for Government Clients

Risk Identification and Measurement Extensive use of stochastic catastrophe risk models

employing the latest scientific research on natural hazards and utilizing stock inventory and vulnerability data (EQECAT, RMS, AIR)

Loss control programs Loss prevention programs/national mitigation

efforts/enforcement of building codes, construction supervision.

Risk transfer/risk financing Reinsurance Government Insurance Industry

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Country Assets (people, housing, factories, schools…)

Country Assets (people, housing, factories, schools…)

Risk AnalysisExpected Annual Loss

Loss Exceedance (PML’s)Risk Transfer Cost/Benefit

Risk AnalysisExpected Annual Loss

Loss Exceedance (PML’s)Risk Transfer Cost/Benefit

Revise StrategyReinsurance/Alternative

Risk Financing Strategies

Revise StrategyReinsurance/Alternative

Risk Financing Strategies

Manage PositionManage Position

NoNo

Yes

Lower RiskMitigation, Land use

planning

Lower RiskMitigation, Land use

planning

(Risk Transfer/Financing)

(Risk Reduction)

Achieve Risk Management

Objectives?

Achieve Risk Management

Objectives?

Flood, Earthquake, Wind….Flood, Earthquake, Wind….

National Catastrophe Risk Management

Source: EQE

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World Bank’s Role in Building National Risk Transfer Systems Vulnerability of the world’s poor to natural

disasters underpins the World Bank’s work on risk transfer and risk financing.

By ensuring that sufficient liquidity exists after a disaster, risk transfer mechanisms can help to speed economic recovery and reduce government exposure to natural disasters.

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World Bank’s Role in Building National Risk Transfer Systems

Catastrophe risk management can also assist countries in the optimal allocation of risk in the economy, thus contributing toward higher economic growth, better mitigation and more effective poverty alleviation.

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World Bank’s Role in Building National Risk Transfer Systems

The latest examples include Bank’s involvement in the design of the Turkish Catastrophe Insurance Pool, preparation of the launch of the Disaster Pool in the Caribbean, studies of economic vulnerabilities to natural hazards in Honduras, India, Bangladesh, Pakistan and Sri Lanka, feasibility studies on parametric weather insurance in Morocco, Mexico and Turkey.

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Quantifying the Uncertainty: The Role of World Bank Independent Estimates of Countries’

Economic Exposures and Vulnerability to Natural Disasters;

Quantification of Economic Benefits from Different Risk Transfer/Risk Hedging Arrangements;

Selection of Best Risk Transfer and Financing Programs

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Quantifying the Uncertainty: The Role of World Bank Review of premium rates and assistance in the

design of risk transfer instruments

Determination of expected survivability of insurance/reinsurance pools for given levels of exposure and capitalization

Provision of risk funding facilities

Design of Legal and Institutional Frameworks for Risk Management

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Table 1 Reported Natural Catastrophe Exposures in Asia, 1996-

2000

South Asia reported percentage reported GDP1 government - loss intensities -

country incidents assessed losses [$ mill.] revenues2 pct. GDP pct. revenues

India 73 19.2% $9,176 $407,850 $75,500 2.25% 12.15%

Pakistan 22 0.0% $52,280 $9,150

Afghanistan 20 0.0% $3,895

Bangladesh 48 8.3% $2,879 $37,650 $4,360 7.65% 66.03%

Sri Lanka 9 0.0% $11,625 $2,185

Bhutan 0 0.0% $430 $165

Nepal 15 26.7% $52 $6,250 $690 0.84% 7.58%

187 7.7% $12,107 $519,980 $92,050 3.58% 0.2859

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Buildings Infrastructure Agriculture GDP

Inventory Vulnerability Hazard

Expected Annual Loss 100,200,500 yr. loss

Insured Insurer Reinsurer/Capital Markets

Equity Reinsurance Gov”t.

Sales & Service

Claims

NATURAL PERILS: EARTHQUAKE, FLOOD, WIND, DROUGHT

Coordination-Natural Disaster

s

Risk

Mgmt.

Potential loss

Loss parameters

Loss probability & severity

Risk allocation, rating plan, pricing, transfer

Risk financing

Distribute policies, collect premium, service claims

Building codes, land use, disaster management

Claims, solvency, operations, risk financing

National Responsibility / Accountability

Source: EQE

National Catastrophe RiskManagement

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World Bank GroupWorld Bank GroupTCIP: Historical Background Low EQ insurance penetration - about 2%

outside Istanbul and 15% within Istanbul; almost 0% in low-income, middle-class segment of property market

Highly competitive, poor underwriting standards, systemic links with the banking system

Low capital base and low level of reserves against earthquakes in the domestic insurance industry

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World Bank GroupWorld Bank GroupTCIP: Historical Background Poor prospects of expanding EQ coverage

since Disaster Law mandated funding of replacement of dwellings nearly free of charge

Insufficient technical capacity in pricing and managing catastrophic risk in the industry

Continuous government financial exposure to EQs

Inadequate understanding and management of EQ risk by households and contractors

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World Bank GroupWorld Bank GroupTCIP’s OBJECTIVES Ensure most domestic dwellings have EQ

insurance. Reduce government fiscal exposure. Transfer most of catastrophe risk to

international reinsurance and capital markets. Overtime, build up TCIP’s capital base to

insure against larger events Encourage risk mitigation and safer

construction practices

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World Bank GroupWorld Bank GroupTCIP: Main Highlights

Legislation Amendment of the Disaster Law:

no more government interest-free loans to homeowners

Enactment of Earthquake Insurance Decree Law: EQ insurance is made compulsory TCIP is created as the sole-source provider of

EQ coverage TCIP was required to become operations on

September 27,00

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Legislation Pending Enactment by the Parliament of

Earthquake Insurance Law introduces penalties enhances the Decree law

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Around 2 million policies Compulsory EQ cover for all registered

residential dwellings Stand-alone product, separate from fire

(homeowner’s) insurance Cover up to $20,000 per dwelling & none for

contents 15 rating categories based on hazard zone and

the type of buildings

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Cover in excess of TCIP (>$30,000) is obtainable from private insurers

Private insurers distribute TCIP policies acting as agents, i.e. assume no risk of loss

To eliminate “penny claims” and reduce administrative and reinsurance costs of the pool, a deductible of 2% is introduced.

Online (web-automated) policy underwriting and data management

Independent (hired by TCIP) loss adjusters are used in claim settlement

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Independent (hired by TCIP) loss adjusters are used in claim settlement

Outsource extensively/no public sector employees

Premium reserves held in creditor-proof escrow accounts, with at least 50% invested in foreign assets

Overall protection against losses up to $1 billion in the first 5 years

If claims exceed TCIP’s available financial resources, the GOT will step in

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Turkish C atastrophe Insurance Poo l O rgan izationa l S tructure

C laim Adjusters IT P roviders

R einsuranceC apita l M arkets

W orld Bank

Policy D istributor(Insurance C om pany)

Policy D istributor(Insurance C om pany)

Policy D istributorInsurance C om pany

Policy D istributorInsurance C om pany

Pool M anagem ent C om pany(M illi R e)

Board of D irectors G enera l D irectorate of InsuranceO versight/P rogram Im plem entation

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GOVERNMENT SPONSORED CATASTROPHE INSURANCE POOLS AND FUNDS

Source: Guy Carpenter

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World Bank GroupWorld Bank GroupConclusions

Risk assessment technology and financial market development create new options for government risk management

Catastrophe risk pooling with government acting as a reinsurer of last resort can be an attractive solution for managing the country’s risk exposure to natural disasters

Foundation for a unified country plan for managing cat risk is a must

A “bottoms- up” high quality risk analysis is essential for decision making and risk capital financing

World Bank Group Managing Catastrophe Risks of Natural Disasters at the Country Level: The World Bank Prospective Eugene N. Gurenko Senior Insurance Specialist.

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