Governments around the world can reduce the human and economic impact of natural catastrophes by cooperating more closely with insurers, according to a report published today by insurance economics think tank, The Geneva Association.

The report, Insurers’ contributions to disaster reduction, a series of case studies, examines examples of existing collaboration between insurers and governments around the world on disaster risk for best practices and areas where cooperation can deliver more human and economic benefit.

The report concludes that while natural catastrophes, particularly in the developing world, can lead to poverty and economic stagnation, greater cooperation between insurers and governments can reduce the scale of the disaster itself as well as its subsequent economic impact.

Dr Nikolaus von Bomhard, chairman of The Geneva Association and Chairman of the Board of Management, Munich Re says: “Market mechanisms work effectively to create and grow insurance practices in developing countries.

However, without suitable economic and regulatory frameworks, insurance risk management mechanisms are falling short of their potential to reduce the impact of disasters. By working together with insurers, governments have the means and capability to leverage this potential, to increase protection of individuals and the economy and reduce disaster impacts.”

Rapid population growth has taken place over the last 100 years and urban areas have expanded massively, concentrating economic activity. The value of property and infrastructure in high risk areas has also increased. Disaster risk management has not always kept pace and much development has taken place, for example, on natural floodplains. Climate change will likely lead to more frequent and more extreme weather events. Findings from the report include:

1. Insurers reduce risk concentration.
Insurers spread risk around the world via the global reinsurance industry. In 2011 the insurance industry comfortably met the insured costs of catastrophes in Thailand, Japan, Australia, New Zealand and the U.S. that totalled more than US$108bn.

2. Insurance quickly and effectively injects liquidity into catastrophe-affected economies.
The financial reserves and practices of the insurance industry enable it to deliver fast post catastrophe compensation, providing much needed injections of liquidity that contribute to economic recovery locally and nationally. This liquidity reduces the burden on governments and frees up capital for additional recovery efforts. In the 2011 Tohoku earthquake and tsunami in Japan, some 90 per cent of the US$38.5bn of insured losses were paid within three months of the disaster (see Case study 5 of the report). In New Jersey and New York, it has taken only six months since Sandy for 90 per cent of claims to be paid. The efficacy of post-catastrophe measures is most notable when absent, for example in Haiti.

3. Government insurance pools can help but they must not undermine insurance.
The private insurance market, backed by the global reinsurance industry, takes on trillions of dollars of insurance risk annually. However, government pools can distort well-functioning markets by undercutting them. Insurers hold capital to ensure they can meet all their claims with high probability. Actuarial prices have to allow for expected claims, expenses and provide an investment return – even in a low yield environment. Government pools whose price only covers claims and expenses undermine private markets that cannot compete with taxpayer backstops. Case study 2, an examination of the National Flood Insurance Program in the US, illustrates the potential shortcomings of a public programme.

The costs of a risk must be correctly reflected by the price for insuring it. Governments can either support or undermine this effective risk signal.

4. Risk-based, actuarially sound pricing is an essential mechanism for insurance to mitigate risk.
When insurers communicate risk levels to their policyholders, they can encourage them to engage in low-risk behaviour, for example moving to lower risk areas or increasing the resilience of their property to disaster. A good example is the California Earthquake Authority (Case study 6), a public private co-operation that lowers risk-based premiums when property owners take measures to mitigate risk. Insurers are therefore pushing for jurisdictions to adopt stricter building codes and more sensible land use policies.

5. Public-private co-operation helps to build resilient infrastructure.
Rebuilding resilient infrastructure is expensive and insurance policies that provide for it could meet resistance from cost-conscious consumers and businesses. But strong building codes and regulation that require policyholders to rebuild to high standards will level the playing field and costs will be mutualised across society. Everyone, even in emerging economies, can contribute a little towards building a stronger, more resilient community. In Ethiopia, for example, poor farmers can pay for insurance by working on local climate adaptation measures (Case study 8).

Michael Butt, Co-Chairman of The Geneva Association’s Climate Risks and Insurance project and Chairman of Axis Capital, said, “We have to learn from disasters. After a catastrophe we can decide whether we want to rebuild, or if we make way for nature and relocate. When we rebuild, we can do so in a risk-resilient, energy-efficient way. Strong local government policy on land use and building codes, coupled with disaster recovery plans, will allow communities to rebuild quickly and sensibly. But people will need encouragement to adapt; policymakers and industry can work together on a shared vision for sustainable development. Local government actions in New Jersey and New York in the wake of Sandy are a positive step in the right direction and an example to other jurisdictions.”

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