Insurance and reinsurance in a changing climate

July 30, 2012, 11:20 am
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Insurance and Response to Climate Change Risks

Most insurers, particularly American ones, have been reluctant until recently to link their own business to the risks of climate change. Climate activists recognized in the early 1990s that the insurance sector would be significantly affected by natural disasters and should have an interest in preventing climate change. It has taken time, but insurers are finally recognizing the potential threat to their business posed by changing weather patterns. They have been prodded to act by a series of extreme weather events, increasing scientific evidence, targeting by climate change activists, changes in government policy, and by the early acceptance by major international reinsurers of the need to act.

Insurers can respond to "excessive" risk in a number of ways. The most common is simply to withdraw from a place or product line. After Hurricanes Dennis, Katrina, Rita, and Wilma, many insurers withdrew from coastal markets in the United States. They feared the financially disastrous combination of severe weather trends with increased population growth and economic development in urban areas. Insurers often withdraw, either temporarily or permanently, when losses are too high. This leaves the burden on individuals to cover their own losses, or turn to the government for aid. In coastal areas of the United States, state-backed insurance plans are being overwhelmed by new applications. When one person loses their house and has no insurance, they must dig into their own personal resources to rebuild. But when thousands of people lose their houses in a disaster, then government must step in to provide the resources to rebuild entire communities.

Insurers can raise prices after severe losses, to return to profitability and rebuild reserves to prepare for the next disaster. Raising prices drives people away from purchasing insurance. Again, the gap in coverage is filled by public spending. Many people can be left without affordable coverage. Or, insurers can shift or redistribute losses to others. Generally, they do this by buying insurance themselves, from reinsurers. Reinsurance typically covers a percentage of losses, or losses above a certain threshold. In some cases, governments may provide reinsurance, for instance, to cover the massive potential losses in case of nuclear disaster.

Finally, insurers can change the terms of contracts to limit their losses. They can do this by limiting the ability of customers to obtain payment for losses through stricter contract terms, and by  denying claims. This common approach has led to extensive litigation. Or, insurers can provide incentives for customers to change their behavior in ways that reduce the risk of loss. For instance, insurers can charge less for customers who install smoke detectors. In some cases, insurers may even lobby government to change regulation to enforce less risky behavior.  All of these responses, and more, are in play with regard to climate change risk, but only the last one provides a mechanism to reduce or prevent climate change.

Why should insurers worry? The predicted effects of climate change will cause sea levels to rise, modify ocean circulation, and change marine ecosystems. They will place increased stress on coastal resources and could threaten the existence of low-lying islands from the South Seas to Manhattan. There are areas of New Orleans that some experts believe should not be rebuilt because the land is too low and will flood again as global warming increases. Some agriculturally productive regions in the plains regions of the United States and Canada may experience severe droughts, and the “breadbasket” of North America may become a parched wasteland. Coastal resort areas may be affected by rising waters as glaciers melt from warmer weather patterns. Pressure on habitats is increasing, and disease-carrying insects and animals are moving out of tropical regions farther north.

All of these consequences of global warming pose increased risk of loss to property and commerce, and in turn, to insurers. Just about every type of insurance may be affected: obviously property insurance, due to weather-related damage, but also health and life insurance, as diseases spread into new geographic areas. More specialized insurance also may be affected. For instance, companies selling directors’ and officers’ liability insurance may face shareholder lawsuits if company management does nothing to prepare for or prevent climate change. Insurers may also suffer investment losses, as they are some of the largest institutional investors in the world.

The impact of climate change need not be entirely negative, however. In fact, some have argued that climate change is a boon to insurers because more people will need insurance. They may also find new opportunities as entrepreneurial insurers devise new products for climate mitigation, such as policies to insure carbon credits in newly established exchange mechanisms.

Recognizing Climate Risks

Insurance, in its most fundamental form, is a mechanism for transferring financial risk. The insurance firm obtains payment in the form of premiums, and the customer receives in return a promise that the insurer will pay for losses when a specified risk occurs. Economic historians point to the development of institutions to manage risk as a key facilitator in the expansion and development of the modern economy. The insurance industry is composed of many different types, or “lines,” of insurance, including life, health, property and casualty, auto, and various specialized forms of insurance such as political risk or directors’ and officers’ liability. The industry includes the direct insurers (companies and agents) who sell to customers; brokers who bring customers and insurers together; adjusters who evaluate and administer claims; and reinsurers who provide insurance to the direct insurers. In addition, there are many different service providers, from rating agencies to specialist insurance providers.

The main hubs of insurance activity are in London and New York, with big reinsurers such as Swiss Re and Munich Re based in Europe, with one of the biggest direct insurers based in Tokyo. In the U.S., insurance is regulated at the state level, though the industry as a whole has experienced national consolidation and international mergers and acquisitions. The Canadian market is similar to that in the United States, though certain types of insurance are provided by provincial governments, and there is more extensive federal regulation. In addition, most insurance is sold through brokers, with local branches of international firms (e.g., Marsh Canada Ltd.). Most developing countries do not have big insurance markets. For instance, the Mexican insurance market is dominated by five companies that have all received significant foreign investment in recent years. As in many developing countries, the insurance market is underdeveloped, and most risks are not insured and simply become losses. Major reinsurance companies operate internationally; local markets and international ones are intertwined, so severe losses from storms in the Gulf can reduce the amount of insurance available in Europe.

Table 1: Highlights of 2005 Weather
1. Hurricane Vince was the first ever hurricane to approach Europe making landfall in Spain in October. It was also the most eastern and northern hurricane ever seen.
2. On 26 July, the meteorological station at Santa Cruz in north Mumbai, India recorded 944mm of rain in 24 hours. This was the highest precipitation ever recorded in India.
3. Hurricane Wilma, which formed in the Caribbean in October, was the strongest hurricane ever monitored. It had a core pressure of 882 millibars and caused devastation in Cozumel and Yucatan. Economic losses have been calculated at $15 billion with insured losses of $10 billion.
4. At the end of November, tropical storm Delta hit the Canary Islands, killing several people and leaving tens of thousands without electricity. It was the first tropical storm to ever strike the islands.
5. The number of tropical storms broke all records in 2005. By December 1, there had been 26, or 5 more than previous record of 21. Fourteen of these 26 tropical storms were classified as hurricanes.
6. Hurricane Katrina has been the most costly weather-related disaster ever with economic losses totaling more than $126 billion and more than $30 billion in insured losses.
Source: UNEP, 2005 Breaks a String of Disastrous Weather Records

The insurance industry began to consider human-made climate change a threat to its health following a series of weather-related disasters in the 1980s and 1990s, such as hurricanes and floods, which have since only grown worse. The property-casualty insurers experienced what were then considered to be record-breaking losses, and the trend since then has been continually upward. In both 1995 and 1996, the losses broke all previous records. In comparison to the 1960s, the 1980s had 3.1 times more overall economic losses from major natural disasters; 4.8 times more insured losses; and 5.0 times as many major catastrophes, (1993). There were about 5.5 times as many weather-related natural disasters in recent years on a global basis than 40 years ago. In 2004, global losses linked to weather totaled $145 billion, with insurers covering $45 billion. In 2005 alone, weather-related losses topped $200 billion and insured losses were around $70 billion (see Table 1). Hurricane Andrew was a category 5 hurricane which did not even make landfall in the most developed areas of Florida but nevertheless caused $16 billion of insured losses and wiped out the premiums collected over the previous twenty years in a matter of hours. For the U.S., 2005 was a truly disastrous year, with Hurricanes Dennis, Katrina, and Rita causing a combined $154 billion in losses; Katrina alone caused a stunning $135 billion loss. Global weather-related losses have been trending upwards, and these trends outstrip increases in population or inflation or non-weather-related events. Some observers estimate that, worldwide, the losses are a staggering $80 billion each year, although only around $20 billion are actually insured. 

One notable feature of the insurance-sector response to climate change issues is the significant variation between European and U.S. insurance cultures. In Europe, the insurance industry has been more proactive in changing their policies to respond to climate change, and in pressing governments to act on this issue. This can be explained in part by the differences in business-society relations between the United States and continental European states. Business has tended to accept a larger role in social issues in Europe because of a history of corporatism, social welfare, and high expectations from society. European insurers are more willing to invest in the kind of research data and model development that generate new knowledge, understanding, and underwriting standards than are U.S. firms.

U.S. firms are  constrained by intensely competitive and shareholder-driven markets that punish firms immediately for performing below expectations. The legal and regulatory environment limits their ability to use new techniques and pricing structures (discussed below). However, even the more progressive European insurers did not act strongly to mitigate climate change until recently, despite their rhetoric. And, despite the hand-wringing over the high cost of recent disasters, the last few years have been some of the most profitable for U.S. insurers, in part because the losses were borne by overseas firms or reinsurers, who buffered their losses with returns on their investments in global capital markets--at least, until the financial crisis began.

Reports of unusually severe natural disasters and dire effects on insurance profitability and even solvency began to appear in business journals in the 1980s. At the World Insurance Congress in July 1991, a representative of Continental Corporation noted that 1989 and 1990 were both record-breaking years for catastrophe losses; she mentioned the possibility this might be related to global warming but did not take a definitive stance. In 1992, Munich Re corporation assessed losses that year as involving more than 500 natural catastrophes, 100 more than in the previous year. Swiss Re did an analysis demonstrating the size and frequency of catastrophes had been increasing. Insurers became increasingly reluctant by 1993 to provide insurance coverage in areas subject to these natural disasters, including many island states. These early 1990s reports stimulated discussion within the insurance industry of the relationship between extreme-weather risks, climate change risks, and insurance.

Jeremy Leggett of Greenpeace International was one of the first to make the link between insurance losses and global warming. In 1992, he began to urge the insurance industry to take action against global warming, making numerous presentations at industry conferences. He published a widely noticed article citing those earlier insurance studies and linking their results to climate change in an effort to mobilize insurers. In his manifesto, he argued that the standard response of raising premium rates and deductibles, and restricting the terms and conditions for insurance policies, was a shortsighted solution to a major problem. He believed the long-term health of the industry depended on reducing greenhouse gas emissions to prevent, and not accommodate, climate change. At this time, Greenpeace was looking for a business group to organize in opposition to the fossil-fuel interests that adamantly resisted efforts to limit carbon emissions. Leggett cited numerous statements by insurers that indicated a growing concern among some of them that indeed climate change was implicated in their current losses or could potentially become a severe problem in the future.

Munich Re, the largest reinsurance company in the world, called on governments in 1994 to stabilize greenhouse gas emissions and keep their Rio commitments. A year later, just prior to the Berlin Intergovernmental Panel on Climate Change (IPCC) conference, Munich Re reported on further natural disasters, linked them to possible global warming, and called for a reduction in carbon emissions. Gerhard Berz of Munich Re stated that “There is no longer any doubt to us that a warming of the atmosphere and oceans is causing an increased likelihood of storms, tidal waves, hailstorms, floods and other extreme events”. In what amounted to a call to action, in 1995 H. R. Kaufman, general manager of Swiss Re, stated, “There is a significant body of scientific evidence indicating that last year’s record insured loss from natural catastrophes was not a random occurrence...Failure to act would leave the industry and its policyholders vulnerable to truly disastrous consequences”. At the Berlin conference itself, representatives of Munich Re, Swiss Re, and Lloyd’s of London lobbied for emission reductions.

The major Norwegian insurer, Uni Storebrand, began lobbying other companies in Switzerland, Germany, and Britain to organize more actively on climate change issues and participate in international negotiations. Uni Storebrand, General Accident, and National Provident in the United Kingdom, and Gerling in Germany formed an environmental alliance, drawing up a letter of intent linked to a United Nations Environment Programme (UNEP) statement. The UNEP program director at the time worked closely with the industry and cosponsored the “Statement of Environmental Commitment,” in which the signatories promised to incorporate environmental considerations into their risk management and to adopt industry best practices in this regard. They would regularly make public reports of their environmental actions, and would realign their asset management to consider environmental risks. By November 1996, 62 insurers from around the world had signed on to this statement.

Table 2: UNEP Finance Initiative - Signatories by Region 2009
Africa 6%
Asia-Pacific 29%
Europe 48%
Middle East 1%
North America 13%
Latin America 3%

A year later, UNEP sponsored a conference on the Insurance Industry and the Environment in London at which close to 100 insurance companies from around the world participated. The conference focused on ways the industry could implement their commitment to incorporate environmental considerations into their “best practices.” They focused on eight areas: the handling of claims for losses; managing insurers’ assets; designing insurance products; preventing losses; managing physical assets; mobilizing the company; and environmental reporting and lobbying. This eventually became one element in the overall strategy of the UNEP to organize the financial sector as a whole on environmental issues. The UNEP Finance Initiative (UNEP FI) now was joined by an Insurance Industry Initiative, or UNEP III (see Table 2).

A UNEP III position paper on climate change from 1996 clearly pointed out the potential effects of climate change. It discussed not only the losses that might be suffered by property insurers, but also warned that life insurers and pension funds would be affected by climatological effects on human health. Long-term investors such as the insurance industry might be affected by major changes in economic activity. The report argued that market forces alone would not change behavior efficiently or effectively, and concluded that the precautionary principle must be the basis for decision-making. The insurers that were part of the UNEP III threw their support behind the Framework Convention on Climate Change, urged countries to achieve early and substantial reductions in carbon emissions, and argued for increased participation by non-governmental organizations, including business, in the negotiations.

In recent years, the European, and particularly the British, insurance companies have continued to support the need for insurers to take account of climate risks in their business. In 2005, the Association of British Insurers (ABI) produced a report arguing that climate change could increase the financial costs of extreme weather around the world. “Even quite small increases in the intensity of major storms (hurricanes, typhoons, windstorms), as predicted by the latest climate change science, could increase damage costs by at least two-thirds by the end of the century. The most extreme storms could become even more destructive, making insurance markets more volatile, as the cost of capital required to cover such events increases”. Swiss Re announced that it would partner with RNK Capital LLC to sell insurance for Kyoto-related risk in carbon credit transactions. It has established a specialist unit to address climate change mitigation and to take advantage of emerging market opportunities. Swiss Re also has been lobbying governments to combat climate change; it participates in the Carbon Disclosure Project, and is a member of the International Emissions Trading Association and the UNEP Finance Initiative, including the Insurance Industry Initiative. In 2006, insurers produced the ClimateWise Principles for how insurers should actively shape behavior to mitigate climate change, including reducing carbon emissions by the insurers themselves. 

 As Chris Walker, managing director of the Greenhouse Gas Risk Solutions unit of Swiss Re said:

It is the nature of our business to identify risks in the long term, and I see strong communication of those risks as an obligation for a reinsurer. If you start talking about an issue for a number of years it creates a groundswell of interest and awareness. If we can do this with climate change then it will be good for our clients and good for Swiss Re.

In North America, U.S. industry remained outside this mobilization, despite the efforts of Greenpeace to enlist them in the cause. It would be some years before the Canadians began to take notice. Neither Canadian nor U.S. insurers signed the environmental pledge co-sponsored by UNEP at the time it was put forth, and to date, few have signed on to the UNEP Finance Initiative. U.S.-based insurers in particular view it as a European initiative; and, from the other side, the participants in the initiative have shown little interest in working with U.S. insurers. U.S. insurers suffered losses similar to those of the European reinsurers, but viewed the problem as simply one of catastrophes that reduced their financial reserves and undermined their financial health, and not some larger problem. The link the U.S. insurers made is not between global warming and disasters, but between over-development in threatened areas and the costliness of disasters, requiring government intervention.

Canadian insurers began to take notice of the potential effects of climate change earlier than their U.S. counterparts, but still lagged behind the Europeans. The Canadian property and casualty insurers funded the creation of an Institute for Catastrophic Loss Reduction (ICLR), which began calling for action on climate change in 2005 with a call to the prime minister to develop a strategy on climate change. In Mexico, given the heavy foreign investment in that sector, we can expect industry positions on climate change to reflect the stance of their major shareholders.

Only a few U.S. insurers mentioned global climate change as a threat to their business in the 1990s and early 2000s, and only a handful did something about it. American Re invested some funds in technologies to reduce environmental risks. The company was purchased by Munich Re, a European leader in linking insurance losses and climate change, and this may have led it to become more active on environmental issues. Frank Nutter of the Reinsurance Association of America was the primary liaison between the U.S. industry and activists such as Greenpeace, and initially expressed doubts about the climate change-insurance loss link. Around 2006, AIG acknowledged that climate change is a significant financial risk to the industry, and that action must be taken (AIG since that time has faced financial disaster). The U.S. industry response to severe weather patterns has been a traditional political one--lobbying the United States government to establish a federal disaster fund as a safety net for the industry. Insurers argue for support on the grounds that major catastrophes threaten the solvency of the industry, which is crucial to the economic health of the nation. Canadian insurers have also called upon their government to take action, and did not taken significant other steps.

Neither U.S. nor European insurers changed their premium prices based explicitly on climate risk assessments. There is still a great deal of uncertainty regarding models of weather patterns, and how the distribution and impact of changes will affect insured property and lives. The string of hurricanes in 2005 and other natural disasters in later years is now being incorporated into the most recent risk prediction models. Lloyd’s of London has issued reports arguing that the industry has to re-evaluate its models for underwriting, investing, and pricing its products or it could face financial stresses and even collapse. The European insurers have been more advanced in developing climate prediction models utilizing the latest climate science. They have also invested in developing new measures of carbon emissions in order to benchmark progress in this area and valuate firms. In the United States, the insurers are doubtful that state regulators will allow them to raise their prices based on models of the future, as opposed to traditional pricing based on historical data. Predictive models are viewed by regulators with suspicion, and historical data is perceived to be impartial and fair in determining underwriting results. So far, Massachusetts is one of the few states that allows price changes based on future-oriented estimates.

Environmental advocacy groups have long been interested in persuading the financial sector to use its leverage over other firms to get them to adopt more sustainable practices. In addition to the UNEP Finance and Insurance Industry Initiatives mentioned above, there has been continuous work by groups such as the World Resources Institute and World Wildlife Fund to develop partnerships and dialogue with the financial sector. The most prominent of these is the Ceres coalition of investors and environmentalists, which produced well-publicized reports on climate change and insurance. It also organized 20 institutional investors, with $800 billion in assets, to ask 30 publicly held insurance companies to create risk analyses of climate change and report these to the public by August 2006. These investors include state treasurers from California, Connecticut, Kentucky, Maryland, New York, North Carolina, Oregon, and Vermont; two of the largest public pension funds; the New York City Comptroller, the Illinois State Board of Investment; and others. They are all members of the Investor Network on Climate Risk (INCR), a non-profit that is working to influence climate change policies. This pressure from Ceres is credited with pushing AIG to take a publicly proactive stance on climate issues.

Differences between U.S. and European Insurers

Why the big difference in response between the European and U.S. insurers? Why the slow uptake in the United States (and Canada)? There are a number of possible reasons. First, U.S. insurance companies invest relatively little into research, either individually or as an industry. The largest U.S. insurance companies have not established research into climate change and its consequences, and there has been little systematic research by anyone, public, private, or academic, on the potential effects on the industry. One major exception is the work by Evan Mills for the Lawrence Berkeley Laboratory and the EPA in the U.S. Many insurers say they are waiting for more certainty regarding the science of global warming.

This contrasts with the European industry, which regularly reports on environmental issues and the possible impact of climate change. Swiss Re has been issuing reports on trends in natural disasters for decades. In Germany, Allianz Group established a “Climate Core Group” to study the issues, and is working with the government on how to respond. European firms tend to have in-house scientific research capabilities that U.S. firms do not, providing a voice within the corporate organization for future-oriented planning. However, a few reports from U.S. industry research centers in the last few years note the possibility that climate change could be a factor in insurance losses. Most U.S. insurers appeared to believe that the research on this topic is not conclusive enough to warrant active efforts to reduce carbon emissions; therefore, they simply recommended continued research instead of action. A statement from Wallace Hanson, president of the Property Loss Research Bureau, reflected the common attitude:

The industry mindset is: Is this part of the normal cycle? Or, as Greenpeace suggests, is it something that society is bringing on itself and will get worse? This is the fence companies are sitting on. I feel that fossil fuels may be the cause, but I’m afraid of throwing a whole lot of resources at it and finding out it’s something completely different.

However, there is increasing evidence that scientific knowledge regarding climate change is beginning to be more widespread within the industry. In February 1995, the U.S. Insurance Institute for Property Loss Reduction, the Reinsurance Association of America, the Office of Vice President Gore, and Undersecretary of State for Global Affairs Timothy Wirth, sponsored a meeting on climate change attended by a number of U.S. insurers at which they agreed to review the link between environmental change and recent losses. Both climate scientists and European insurers made presentations. In the mid-1990s, insurers and reinsurers in Bermuda, the United States, and Europe established the Atlantic Global Change Institute (AGCI) to conduct research on climate risks that affect business. It focuses on making available to insurers the latest scientific advances in predicting climate patterns, although to date it has had little influence. Ten years later, in 2006, the U.S. National Association of Insurance Commissioners finally set up a task force to study climate change, a belated effort to consider the risks to insurers of climate change. The Canadian Institute for Catastrophic Loss Reduction, funded by insurers, has directly addressed climate change issues, and they have become more prominent in climate change debates in that country.

Another reason for the conservative position of U.S. insurers may be the liability system in the United States. In the past few decades, insurers have been forced by the court system to pay for environmental cleanup beyond what they had contracted for originally. Long after the relationship between the insurance company and the customer has ended, the insurer may still be held liable for pollution and environmental damage. This encourages insurers to withdraw from markets, instead of dealing with liability in cases of property damage from climate change. A similar legal environment does not exist in Europe or in Canada.

Unlike their European counterparts, U.S. insurers simply did not perceive the possibility of financial opportunities--insead of costs--from climate change action. European insurers perceive good financial prospects for investing in emissions trading, renewable energy, climate-friendly technologies, and new insurance products that help customers manage environmental risks. European insurers plan to become directly involved in carbon trading markets by providing incentives for industry to adopt more environmentally-friendly technologies through the terms of their insurance contracts. Swiss Re, as mentioned above, is already planning to insure carbon transactions. It has established a specialist unit within the company called Greenhouse Gas Risk Solutions, to focus on mitigating and managing risk and pursuing opportunities. It seeks “first mover” advantages in creating an investment fund for energy efficiency and renewable energy in Europe. In Europe, insurers are more sensitive about their reputations, which are more easily affected by public perceptions regarding their responsiveness on the environment.

The United States lacks such a green market, which would provide incentives to change. However, this does not mean that U.S. insurers are completely unaware of possibilities for profit?they just have been very slow to recognize it. AIG, based in the United States, recently announced it planned to get involved in mitigating and profiting from climate change. It plans to get in on Europe’s carbon emissions trading scheme, which some predict will be a huge market. Marsh and McLennan, a major insurance broker, produced a report for clients in a range of industries telling them they would be left out in the cold if they did not respond to climate change immediately.

Another reason for the difference in response is due to the paradoxical role of the U.S. government. The U.S. government has a large role in insulating insurers from particular kinds of risk, with extensive government programs for both flood and crop insurance. At the same time, the US government until recently did almost nothing on climate change mitigation. Government action on one and inaction on the other directs insurance industry attention away from this issue. There is both an assumption by insurers that the U.S. government will pick up the slack if the private sector does not provide insurance and an awareness that any action by them on global warming issues probably would not elicit support from the government. At the same time, the U.S. regulatory system discourages the use of new predictive models, and the tax system provides disincentives for the industry to build up reserves for future disasters. There is also strict regulation of the insurance sector, and any attempts to raise prices or withdraw from the market generate regulatory scrutiny.

Choice and Consequences

Insurers can respond to climate debates in three ways. If they assume that recent natural disasters are unrelated to climate change, and that there is no fundamental change going on, then they can simply continue on as before. The time for this option appears to have passed. The second approach is to assume that climate change is actually occurring, and make sure they protect their bottom line by adjusting prices and contract terms to limit insurance losses. This is by far the dominant approach. But the third strategy is to join with others to attempt to mitigate or prevent climate change and its risks. Although still in its early stages, this last option is beginning to gain support. The three options are not mutually exclusive, and some firms are attempting to pursue more than one at once. Many insurers, particularly in North America, are simply doing nothing in the hope that the most-dire predictions are simply wrong and recent natural disasters are a fluke and not a trend. These firms, despite the pressure from reinsurers and from increasing dissemination of knowledge about the risks of climate change, define their interest in terms of immediate short-term calculations of profit and loss. They are reluctant to give up a market that still remains profitable for many. No one firm will withdraw from a particular market unless it is assured that all others will do so, too; otherwise, the lone firm still selling insurance under the terms and conditions that others no longer agree to use will reap monopoly profits. If natural disasters continue to increase in number and severity due to climate change, then the ultimate risk will be placed on governments, since the insurers will experience extreme losses, go bankrupt, or finally withdraw entirely from particular markets. U.S. and Canadian insurers are not alone in this attitude; in fact, some point to it as a particular problem in developing countries, where insurance markets are not yet well developed.

The "do nothing different" option means that many insurers are counting on government to provide the funding to recover from disasters, and to supplement the private market with public insurance funds. We have certainly seen this recently with the reaction to Hurricanes Katrina and Rita losses, and the millions of dollars being spent on recovery in the Gulf states. State governments in the United States are looking to the federal government to establish new disaster insurance funds today. At a global level, we see the same dynamic at play; the Alliance of Small Island States, which will be the first to feel the effects of rising sea levels, has proposed that governments establish a global insurance institution to fund the costs of climate change in their countries. Doing nothing also makes no sense in the face of growing litigation over climate change inaction. In the U.S., there have been class-action lawsuits against U.S. corporations and their reinsurers, and some have been settled for millions of dollars. In addition, there is the risk that shareholders will bring suit for mismanagement if stock prices fall due to violations of carbon emission restriction or failure to disclose environmental risks.

In March 1990, the National Association of Insurance Commissioners (NAIC) in the US-- made up of regulatory officials--began to require that large insurance companies disclose the financial risks from climate change and their responses to those risks. This new rule follows the U.S. Supreme Court decision in 2007 that greenhouse gases are air pollutants under the Clean Air Act and subject to regulatory action. Not all insurers are certain the NAIC decision is wise, and worry that if they provide information on their risks, someone may sue them if the information proves wrong or inadequate. In any case, this reaffirms that the do-nothing option is untenable.

Reliance on government to pick up the slack from insurers is also increasingly unlikely.  A think tank report claims that the EU Solidarity Fund, which is supposed to cover uninsurable risk for government infrastructure such as roads and bridges, is not enough to cover predicted future storms and floods. And, as already mentioned, the state-level insurance pools in the U.S. have been overwhelmed by applications, and the current recession makes it unlikely the states can insure everyone. Despite the projected costs of predicted climate change-related damage--or perhaps because of it--in March 2009 a non-profit coalition of insurance firms, NGOs, and research institutes known as  Munich Climate Insurance Initiative (MCII) urging governmetns to consider a $5 billion per year global climate change insurance program, which would help developing countries cover their losses due to extreme weather.

The second option, to directly accept climate change and its effects, assumes it is an unstoppable force. In this case, insurers' goal would be to make sure there are sufficient financial resources for the insurance industry to remain solvent, and to prevent harm to other financial actors such as banks and institutional investors. Private markets would do what they do best: signal what adjustments others should make through the price and availability of insurance. Some argue that this would provide a smooth transition to a less fossil-fuel dependent world, but the pace of change may instead lead to extreme volatility in prices and availability, which is what we are seeing right now in the North American market. Private insurers would need to consider climate risks more directly in determining where and what to insure and how much to charge. Many areas, particularly coastal , would no longer be insured by them at all. Coinsurance, perhaps through insurance pools or public-private partnerships, would become more common. Other financial sectors could take up some of the risk, for instance through developing new products such as “catastrophe futures” and weather derivatives to hedge against very high risks and losses. Thus, risk would be transferred from those experiencing losses, to the capital markets, instead of to insurers.

The third option would have insuresr actively working to prevent climate change from occurring, instead of simply redistributing the losses.Insurers could create new products and services that help companies reduce their carbon emissions (e.g., through risk consulting and carbon credit finance); facilitate investment in renewable energy technologies (e.g., through carbon credit insurance and structured finance); and provide incentives for companies to improve their  environmental performance on climate change  This would be a more “optimistic” strategy, at least for insurers, in that it would entail developing new market opportunities. Insurers would do what they do best--package risks and sell financial coverage for losses. They would look upon climate change as a profitable opportunity, and not just as a source of disastrous losses. Through the terms of insurance contracts and the types of insurance they sell insurers have a degree of leverage over other industries and individuals. They could use this to promote behavior that reduces carbon emissions. For example, insurers could consider imposing higher premiums on companies that do not have environmental management systems, which is an option being considered by European insurers. Some insurers have begun to sell "green coverages" for buildings that are energy efficient, renewable energy, carbon trading, and other products.

Political activism through such fora as the UNEP III is a part of a pro-active strategy, and the work of the Ceres coalition is another face of this. This strategy looks on government not as deep pockets to pay for losses in a disaster, but as a regulatory institution to force change on society as a whole. The originators of the insurance-environmental alliance have expertise in this area. Uni Storebrand has expertise in marine insurance, General Accident in climate change, National Provident in ethical investments, and Gerling has a separate institute for environmental research. As a result of their expertise and activism, they helped promote new norms regarding the role of insurers in climate change debates.

2008-09, insurers became more and more actively involved in climate change issues. The Association of  British Insurers reported in 2009 that previous predictions it had made in 2005 of damage from climate change were too low. This perspective was reinforced by one of the costliest years in terms of natural disasters. In 2008, floods, storms, hurricanes resulted in three times more damage than in 2007 and more than five times the losses in 2006. Interesting, some observers believe that companies will be hard hit by losses in India and China, where they have outsourced production--and which have some of the most high-risk locations for flooding and other disasters A 2008 assessment of the ClimateWise principles argued that insurers have been spurred to be more influential on the debate over climate change, and have raised awareness among customers of the issues involved. The 41 members implementing the principlse into business operations had been raising awareness, and half had developed new products or services. 

The insurance industry has begun to change, but not profoundly. There are increasing numbers of companies pursuing progressive strategies that attach environmental conditionality to the products they sell. But this is a very competitive market, and this strategy only works well where there is government support and a “green” market. There is increasing discussion among insurers about the need to prevent climate change and engage in political action. But as yet there is relatively little actually being accomplished. Nevertheless, there are a number of reasons to think that insurers will make more significant changes in the coming years. The extreme weather of the last few years, combined with the volatility of oil prices and major political changes such as the election of a new president in the U.S. may have opened a window of opportunity. Governments, especially in Europe, are beginning to adopt policies that facilitate strategies premised on reducing greenhouse gas emissions. The emissions trading scheme is the most significant of these policies. In addition, there has been increased activism directed at, and coming from, the financial sector as a whole. This includes the projects of Ceres, the larger Carbon Disclosure Project, and such financial sector initiatives as the Equator Principles, which regulate project finance on social and environmental values.

When the insurance sector as a whole becomes more completely committed to mitigating and profiting from climate change risk, they will inevitably have a profound influence on the shape of the economy. Individuals and firms will face potentially higher costs for doing nothing about climate change. This will provide a powerful incentive to change behavior. While it may take significant political action to make a real difference in reducing greenhouse gas emissions, the power of the market and the private actors that trade in it may have an equally significant impact.

Further Reading

  • Abbott, Alison. 1994. “Insurance Company to Back out of Some Climate-Linked Risks.” Nature, 372(6503): 212-13.
  • Allianz Group. 2006. “Faber: ‘We Simply Cannot Ignore Climate Change.’” Press Release, June 29.
  • Association of British Insurers. 2006. Financial Risks of Climate Change. London: Association of British Insurers. 2006.
  • Berkeley Lab. 2006. “Berkeley Lab Scientist Sees Risk to Insurance Industry from Climate Change.” Research News Berkeley Lab. August 5, 2005.
  • Canadian Underwriter Daily News. 2006. “Swiss Re launches Kyoto-related insurance.” Canadian Underwriter. ca Daily News, Tuesday, June 13, 2006.
  • Canadian Underwriter Daily News. 2005. “ICLR calls for federal strategy on climate change.” Canadian Daily News, Tuesday, February 15, 2005.
  • Consumer Reports. 2006. “Higher Insurance Premiums: Blame Climate Change?” Consumer Reports, 71(2) February 2006:6.
  • Davis, Tricia Holly. 2009. "Climate Change Damage may Double Cost of Insurance." TimesOnline March 22, 2009.
  • Dlugolecki, Andrew. 2004. A Changing Climate for Insurance: A Summary Report for Chief Executives and Policymakers. London: Association of British Insurers.
  • Environment. 1995. “Betting on Global Warming.” Environment, 37(1):23-7.
  • Environmental Science and Technology. 2006. “News Briefs: Climate Changes Insurance.” Environmental Science and Technology, 40(3):633-63.
  • Gordes, Joel. 1997. “Climate Change and the Insurance Industry: Uncertainty among the Risk Community.” February 27, 1997.
  • 2006. “Institutional Investors to Insurance Industry: Act Now on Climate Change.” Dec. 5, 2005.
  • Hsu, Spencer. 2006. “Insurers Retreat from Coasts.” The Washington Post. April 30, 2006: 1+.
  • Jackson, Derrick Z. 2006. “Insurance Industry Feels the Heat of Global Warming.” The Boston Globe. March 15, 2006: 11.
  • Jagers, Sverker, Matthew Peterson, and Johannes Stripple. 2004. “Privatizing Governance, Practicing Triage: Securitization of Insurance Risks and the Politics of Global Warming.” In The Business of Global Environmental Governance. David Levy and Peter Newell. Cambridge: Cambridge University Press. ISBN: 0262122707
  • Keller, George and Frank Amodeo. 2001. “The Canadian Insurance Market.
  • Kirk, Don. (1995). “Insurers Pledge to Reduce Environmental Risk.” Business Insurance, 29(49):63
  • Klein, Christopher. 2009. "Climate Change, Part III: Liabilities Heating Up"
  • Kreimer, Alcira, Margaret Arnold, et al. 1999. Managing Disaster Risk in Mexico: Market Incentives for Mitigation Investment. Disaster Risk Management Series. Washington, D.C.: The World Bank. ISBN: 0821344919
  • Krotz, Dan. 2005. “On Insurance Risk and Climate Change: An Intervew with Evan Mills.” Science@Berkeley Lab.
  • Lavelle, Marianne. 2006. “Insurers May Cash in on Climate Change.” U.S. News and World Report 140(21) June 5, 2006:46-47.
  • Leggett, Jeremy. 1993. Climate Change and the Insurance Industry: Solidarity among the Risk Community? Greenpeace International Report. May 24, 1993.
  • Levy, David. 2006. “U.S. Business Strategies and Climate Change.” Paper presented at the conference on Climate Change Politics in North America, Woodrow Wilson International Center for Scholars, May 18-19, 2006, Washington, D.C.
  • McIwaine, Kate. 1992. “Australian Insurers Advised to Heat up Participation in Global Warming Debate.” Business Insurance, November 30, 1992:19.
  • Mills, Evan, R.J. Roth Jr. and E. Lecomte 2006 "Availability and Affordability of Insurance under Climate Change: A Growing Challenge for the U.S." Journal of Insurance Regulation Winter 2005 v.245, #2: 109-149.
  • Mills, Evan "Insurance in a Climate of Change," Science August 12, 2005 v.305 pp.1040-1044
  • Mills, Evan, Eugene Lecomte, et al. 2001. U.S. Insurance Industry Perspectives on Global Climate Change. Berkeley, Calif.: Berkeley National Laboratory.
  • Mills, Evan, Richard J. Roth, et al. 2005. Availability and Affordability of Insurance Under Climate Change: A Growing Challenge for the U.S. A Report Commissioned by Ceres. September 8, 2005.
  • Murray,James.March 17, 2009. "Insurance Experts Set out Vision for Climate Adaptation Scheme." BusinessGreen.
  • Nissan, Shamiram and Jon Williams. 2009. "Insurance and the Climate Change Challenge." PriceWaterhouseCoopers Insurance digest 
  • North, Douglass. 1990. Institutions, Institutional Change and Economic Performance. Cambridge: Cambridge University Press. ISBN: 0521397340
  • Sabar, Ariel. 1994a. “Eco-Underwriting: Greenpeace Woos the Insurance Biz.” Mother Jones, 19(4):17.
  • Sabar, Ariel. 1994b. “Greenhouse 101.” Whole Earth Review. Winter 1994:18.
  • Spalding, Mark J. 1993. “Is a Threat to Lloyd’s also a Threat to the Environment?” Journal of Environment and Development, 2(2) Summer:111-28.
  • Swiss Re, 2006. “Natural catastrophes and man-made disasters 2005.” Sigma No. 2/2006.
  • The Climate Group. 2006. “Swiss RE Corporate, Reinsurance.” June 22, 2006.
  • The Economist. 2004. “Awful Weather We’re Having.” The Economist, October 10, 2004:74.
  • The Economist. 2006. “The Price of Sunshine.” The Economist. June 10, 2006:76-79.
  • Thiel, Stefan and Bill Powell. 1995. “While the Earth Burns.” Newsweek. April 10, 1995:44.
  • United Nations Environment Programme. 1996. First UNEP Conference on Insurance and the Environment.
  • United Nations Environment Programme . 2005. 2005 Breaks a String of Disastrous Weather Records.
  • Lloyd’s Insurance International. 1993. “UK: Strange Bedfellows, Greenpeace and Insurers?” February 1993:1.



Disclaimer: This article is taken wholly from, or contains information that was originally published by, the The Canada Institute of the Woodrow Wilson International Center for Scholars. Topic editors and authors for the Encyclopedia of Earth may have edited its content or added new information. The use of information from the The Canada Institute of the Woodrow Wilson International Center for Scholars should not be construed as support for or endorsement by that organization for any new information added by EoE personnel, or for any editing of the original content.




Internation, T., & Haufler, V. (2012). Insurance and reinsurance in a changing climate. Retrieved from


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