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Dr L James Valverde, Jr


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Title: Dr L James Valverde, Jr

Casualty Actuaries of New England
Dr L James Valverde, Jr Vice President, Economics
and Risk Management Insurance Information
Institute 110 William Street New York, NY
10038 Tel (212) 346-5522 Fax (212)
732-1916 jamesv_at_iii.org www.iii.org
26 September 2006
Broad Outline
  • Two Views of Risk
  • Managing Natural Catastrophes in a Post-9/11
  • Government as Ultimate Risk Manager What Role
    Should the Federal Government Play in Managing
    Extreme Events?

First ViewManaging Natural Catastrophes in a
Post-9/11 World
Components of the First View
  • Catastrophe Loss Management The Hurricane
    Seasons of 2005 and 2006
  • Managing Natural Catastrophes The Larger
  • Emergency preparedness and response in the wake
    of 9/11
  • Questions and emerging lessons from Hurricane
  • The U.S. Department of Homeland Security
  • Historic moment for America or bureaucracy writ
  • Emergency Preparedness and Response
  • All-hazards vs. terrorist myopia?
  • FEMA Challenges in the years ahead

Catastrophe Loss ManagementThe Hurricane
Seasons of 2005 and 2006
Most of U.S. Population and Property has Major
CAT Exposure
Is Anyplace Safe?
2005 Was a Busy, Destructive, Deadly, and
Expensive Hurricane Season
All 21 names were used for the first time ever,
so Greek letters were used for the final storms
2005 set a new record for the number of
hurricanes tropical storms at 28, breaking the
old record set in 1933
Source WeatherUnderground.com, January 18, 2006.
2006 Hurricane Season Much Less Active Than
What a difference a year makes! Just 8 named
storms through 18 Sept 2006 vs. 17 as of same
date in 2005!
Source WeatherUnderground.com, September 17,
2006 Hurricane Season Forecasts Repeatedly
Scaled Back
2006 hurricane seasons has turned out to be far
less severe than anticipated
Average over the period 1950-2000. Source
Insurance Information Institute compilation of
forecasts by Dr. William Gray, Colorado State
U.S. Insured Catastrophe Losses ( Billions)
100B CAT year looms on the horizon
2005 was by far the worst year ever for insured
catastrophe losses in the US, but the worst has
yet to come
Excludes 4B-6b offshore energy losses from
Hurricanes Katrina Rita. As of June 30,
2006. Note 2001 figure includes 20.3B for 9/11
losses reported through 12/31/01. Includes only
business and personal property claims, business
interruption and auto claims. Non-prop/BI losses
12.2B. Source Property Claims Service/ISO
Insurance Information Institute
Number of Major (Category 3, 4, 5) Hurricanes
Striking the U.S. by Decade
1930s mid-1960s Period of Intense Tropical
Cyclone Activity
Mid-1990s 2030s? New Period of Intense Tropical
Cyclone Activity
Tropical cyclone activity in the mid-1990s
entered the active phase of the multi-decadal
signal that could last into the 2030s
Already as many major storms in 2000-2005 as in
all of the 1990s
Figure for 2000s is extrapolated based on data
for 2000-2005 (6 major storms Charley, Ivan,
Jeanne (2004) Katrina, Rita, Wilma
(2005)). Source Tillinghast from National
Hurricane Center http//www.nhc.noaa.gov/pastint.
Top 10 Most Costly Hurricanes in US History,
(Insured Losses, 2005)
Seven of the 10 most expensive hurricanes in US
history occurred in the 14 months from Aug. 2004
Oct. 2005 Katrina, Rita, Wilma, Charley, Ivan,
Frances Jeanne
Sources ISO/PCS Insurance Information
Insured Loss Claim Count for Major Storms of
Hurricanes Katrina, Rita, Wilma Dennis produced
a record 3.3 million claims
Property and business interruption losses only.
Excludes offshore energy marine losses. Source
ISO/PCS as of June 8, 2006 Insurance Information
Hurricane Katrina Insured Loss Distribution by
State ( Millions)
Louisiana accounted for 62 of the insured losses
paid and 56 of the claims filed
Total Insured Losses 40.579 Billion
As of June 8, 2006 Source PCS division of ISO.
Hurricane Katrina Loss Distribution by Line (
Total insured losses are estimated at 40.579
billion from 1.7438 million claims. Excludes
2-3B in offshore energy losses
As of June 8, 2006 Source PCS division of ISO.
Hurricane Rita Claim Count Distribution by State
Louisiana accounted for 48.3 of the insured
losses, Texas 44.6. Excludes offshore energy
losses of 2-3B
Total Claims 383,000
As of June 8, 2006 Source PCS division of ISO.
Hurricane Rita Loss Distribution, by Line (
Total insured losses are estimated at 5.0
billion (excl. offshore energy of 2-3B) from
383,000 claims.
As of June 8, 2006 Source PCS division of ISO.
Hurricane Wilma Loss Distribution by Line (
Total insured losses are estimated at 10.3
billion from 1.047 million claims
As of June 8, 2006. All losses are in
FL. Source PCS division of ISO.
Inflation-Adjusted U.S. Insured Catastrophe
Losses By Cause of Loss, 1986-2005¹
Insured disaster losses totaled 289.1 billion
from 1984-2005 (in 2005 dollars). Tropical
systems accounted for nearly half of all CAT
losses from 1986-2005, up from 27.1 from
1 Catastrophes are all events causing direct
insured losses to property of 25 million or more
in 2005 dollars. Catastrophe threshold changed
from 5 million to 25 million beginning in 1997.
Adjusted for inflation by the III. 2 Excludes
snow. 3 Includes hurricanes and tropical storms.
4 Includes other geologic events such as volcanic
eruptions and other earth movement. 5 Does not
include flood damage covered by the federally
administered National Flood Insurance Program. 6
Includes wildland fires.
Source Insurance Services Office (ISO)..
Total Value of Insured Coastal Exposure (2004,
Florida New York lead the way for insured
coastal property at more than 1.9 trillion each
Source AIR Worldwide
Insured Coastal Exposure as a of Statewide
Insured Exposure (2004, Billions)
After FL, many Northeast states have among the
highest coastal exposure as a share of all
insured exposure in the state
Source AIR Worldwide
Value of Insured Commercial Coastal Exposure
(2004, Billions)
Commercial property exposure also implies
significant business interruption losses
Source AIR
The 2006 Hurricane SeasonLowering Expectations
Outlook for 2006 Hurricane Season
Average over the period 1950-2000. Source Dr.
William Gray, Colorado State University,
September 1, 2006.
Probability of Major Hurricane Landfall (CAT
3,4,5) in Sept/Oct 2006
Average over past 52 years. Source Dr. William
Gray, Colorado State University, September 1,
Managing Natural Catastrophes in a Post-9/11 World
The Broader ContextHomeland Security
The Genesis of DHS
  • In the wake of 9/11, President Bush issued the
    National Strategy for Homeland Security in July
  • Legislation creating the U.S. Department of
    Homeland Security (DHS) was signed in November
  • The creation of DHS represents a fusion of
    numerous federal agencies, with the objective of
    coordinating and centralizing the leadership of
    the nations homeland security activities under a
    single, cabinet-level department.
  • Began operations in March 2003
  • 22 separate agencies
  • Approximately 180,000 employees

DHS Historic Moment for the United States or
Bureaucracy Writ Large?
  • The creation of DHS represents a historic moment
    of almost unprecedented action by the federal
    government to transform how the nation protects
    itself from acts of terrorism.
  • Rarely in the nations history has such a large
    and complex reorganization of government been
    attempted, with such a singular and urgent
  • DHS represents a unique opportunity to transform
    a disparate group of agencies with multiple
    missions, values and cultures into an effective
    cabinet-level department.
  • A central aspect of DHSs mission involves
    coordinating efforts to protect critical
    infrastructure, prepare for possible attacks and
    other emergencies, and respond to catastrophic
    incidents and events.
  • Accountability and performance thus far?
  • Hurricane Katrina as a specific case in point
    first real test of the system
  • DHS Inspector General
  • U.S. GAO
  • Academics and Think Tanks

Homeland Security The Essential Tension
  • Any coordinated and sustained effort to
    effectively manage homeland security must contend
    with two competing objectives/tasks
  • The prevention of terrorist acts
  • Mitigation of consequences arising from acts of
    terrorism and other extreme events
  • In a difficult decision context like this, the
    allocation of resources under what is, in
    reality, deep and pervasive uncertainty is one of
    the central challenges the federal government
    faces in its efforts to manage homeland security

The National Strategy for Homeland Security
  • The National Strategy for Homeland Security
    describes six critical missions areas
  • Intelligence and Warning
  • Border and Transportation Security
  • Domestic Counterterrorism
  • Protecting Critical Infrastructure and Key Assets
  • Defending Against Catastrophic Threats
  • Emergency Preparedness and Response
  • The President has also issued several additional
    documents called Homeland Security Presidential
    Directives (HSPDs) that provide more detailed
    guidance on various homeland-security-related
    mission areas and initiatives.

Emergency Preparedness and Response Key Elements
of the National Strategy
  • Within the Emergency Preparedness and Response
  • area, the National Strategy identifies 12
    separate initiatives
  • Integrate separate federal response plans into a
    single all-discipline incident management plan
  • Create a national incident management system
  • Improve tactical counter terrorist capabilities
  • Enable seamless communication among all
  • Prepare health care providers for catastrophic
  • Augment Americas pharmaceutical and vaccine

Emergency Preparedness and Response Key Elements
of the National Strategy (cont.)
  • Prepare for chemical, biological, radiological
    and nuclear decontamination
  • Plan for military support to civil authorities
  • Build the Citizen Corps
  • Implement the First Responder initiative of the
    FY03 budget
  • Build a national training and evaluation system
  • Enhance the victim support system

  • Past, Present, and Future

DHS Organizational Structure FEMAs Place in the
Larger Context of Homeland Security
FEMA Informed Opinion Prior to this Years
Devastating Hurricane Season
  • consolidate DHS response missions into FEMA
    and strengthen that agency. FEMA should be
    engaged squarely in its traditional role of
    planning for national (not just federal) response
    to emergencies. emphasis added
  • DHS 2.0
  • Heritage Foundation
  • December 2004

FEMA in the Wake of Hurricane Katrina
  • FEMA has, of course, become synonymous with the
    governments bungled response to the hurricane.
  • To what extent is this a fair characterization of
    this agency and the difficult situation it now
    finds itself in?
  • Skepticism going forward

FEMA What Went Wrong and Why?
  • Many theories and explanations have been
  • Much of what is currently being said contains the
    following core elements
  • The agency is no longer cabinet-level, but rather
    a small cog within the organizational and
    bureaucratic behemoth that is DHS
  • FEMAs mission to help states prepare for all
    hazards from terrorism to natural disasters
    has become lost within DHSs myopic focus on
  • FEMA should perhaps revert to being an
    independent, cabinet-level agency

  • The Centrality of the All-Hazards Context

HSPD 8 National Preparedness The National
Planning Scenarios
  • Developed under the leadership of the Homeland
    Security Council
  • Overarching goals are to
  • Create the agility and flexibility to meet a wide
    range of threats and hazards
  • Provide a structure for the development of
    national preparedness standards
  • 15 planning scenarios provide parameters
    regarding the nature, scale, and complexity of
    incidents of national significance, which include
    both terrorism and natural disasters.
  • Each scenario provides a basis for defining
    prevention, protection, response, and recovery
    tasks that need to be performed, as well as
    required capabilities.

The National Planning Scenarios
  • The Homeland Security Council has developed 15
  • hazard planning scenarios for use in national,
  • state and local homeland security preparedness
  • Nuclear Detonation 10-Kiloton Improvised
    Nuclear Device
  • Biological Attack Aerosol Attack
  • Biological Disease Outbreak Pandemic Influenza
  • Biological Attack Plague
  • Chemical Attack Blister Agent
  • Chemical Attack Toxic Industrial Chemicals
  • Chemical Attack Nerve Agent

The National Planning Scenarios (cont.)
  • Chemical Attack Chlorine Tank Explosion
  • Natural Disaster Major Earthquake
  • Natural Disaster Major Hurricane
  • Radiological Attack Radiological Dispersal
  • Explosives Attack Bombing Using Improvised
    Explosive Device
  • Biological Attack Food Contamination
  • Biological Attack Foreign Animal Disease (Foot
    and Mouth Disease)
  • Cyber Attack

Scenario 10 Natural Disaster A Major Hurricane
  • In this scenario, a Category 5 hurricane hits a
    major metropolitan area
  • Sustained winds are at 160 mph, with a storm
    surge greater than 20 feet above normal
  • As the storm moves closer to land, massive
    evacuations are required
  • Some low-lying escape routes are inundated by
    water anywhere from 5 hours before the eye of the
    hurricane reaches land
  • Consequences associated with Scenario 10

Looking Towards the FutureWhere Do We Go from
Challenges in Emergency Preparedness
  • Adopting an All-Hazards Approach
  • The National Strategy calls for the creation of
  • a fully integrated national emergency response
    system that is adaptable enough to deal with any
    terrorist attach, no matter how unlikely or
    catastrophic, as well as all manner of natural
    disasters emphasis added
  • Challenges
  • Identifying the types of emergencies for which
    they should be prepared and the requirements for
    responding effectively
  • Assessing current capabilities against those
  • Developing and implementing effective,
    coordinated plans among multiple first responder
    disciplines and jurisdictions
  • Defining the roles and responsibilities of
    federal, state, and local governments and private

Challenges in Emergency Preparedness
  • Improving Intergovernmental Planning and
  • Coordination
  • The National Strategy emphasizes a shared
    national responsibility involving all levels of
    government in responding to a serious
  • In May 2004, GAO reported that a major challenge
    involves what they saw as lack of coordination
    within DHS in terms of the agencys ability to
    prepare for, respond to, and recover from
    terrorist and other emergency incidents
  • there has been a lack of regional planning and
    coordination for developing first responder
    preparedness, defining preparedness goals,
    identifying spending priorities, and expending
    funds (GAO-04-433)

Challenges in Emergency Preparedness
  • Establishing Emergency Preparedness
  • Standards
  • The National Strategy makes mention of
    benchmarks, standards and other performance
    measures for emergency preparedness.
  • However, in January 2005, GAO found that
  • there is not yet a complete set of
    preparedness standards for assessing first
    responder capacities, identifying gaps in those
    capacities, and measuring progress in achieving
    performance goals. (GAO-05-33)

FEMA The Story Thus Far
  • Many are calling for Congress to restore FEMA to
    a separate, independent agency.
  • In Congressional testimony some months ago, DHS
    Secretary Michael Chertoff acknowledged that
    Hurricane Katrina challenged the disaster relief
    system in a way that has not ever happened.
  • He singled out planning as an area in need of
    improvement, saying it was responsible for 80 of
    the failures.
  • Secretary Chertoff pledged to retool FEMA
  • Improved aid delivery system
  • Qualified senior leaders
  • Modernizing business practices and communication
  • However, Chertoff rejected the idea that FEMA
    should be removed from under the DHS umbrella.
  • Partisan politics reigns supreme?
  • Why shouldnt you be arrested for negligent
  • Rep. Cynthia A. McKinney, D-GA

Source Congressional Quarterly
Implications and Challenges for P/C Insurers
and Reinsurers
Mismanagement of Emergency Preparedness and
Response Can Impact the Economic Losses
Associated with Natural Disasters
  • Clearly, there is a relationship between
    recovery time and the economic losses
    associated with a natural catastrophe such as
    Hurricane Katrina
  • Business interruption losses increase
    exponentially with response lag
  • Fires burn uncontrolled
  • Failed law enforcement, rioting and looting
  • Delayed flood drainage
  • Untimely mitigation of environmental
  • etc.
  • While precise estimates of this relationship will
    require future empirical study, a couple of
    points are worth considering in light of Katrina
  • A key responsibility for P/C insurers is to play
    their important and substantial role in the risk
    mitigation process.
  • It is important for federal, state and local
    officials to understand and appreciate the role
    that insurance can play in both minimizing loss
    and expediting recovery.
  • Both P/C insurers and property owners, alike,
    have a vested interested in seeing that the
    overall system works as well as possible.

Challenges for P/C Insurers Uncertainty of Losses
  • Natural disasters pose vexing challenges for
    insurers because they involve potentially high
    losses that are characterized by large degrees of
  • Moreover, natural disasters involve spatially
    correlated losses or the simultaneous occurrence
    of many losses from a single event.
  • Hurricane Katrina suggests a new externality
    for P/C insurers to consider
  • Mismanagement of the governments response and
    recovery efforts in the affected region(s)

Rethinking Traditional Approaches to CAT Modeling
and Risk Management in Light of Katrina
  • Traditional approaches to risk assessment and CAT
    Modeling need to be revised to explicitly
    consider some of these new externalities (e.g.,
    political uncertainty, etc.) into their overall
    analytical frameworks.
  • A clear need for increased geo-spatial
    sophistication and detail within CAT models,
    combined with the ability to perform cascaded
    inference (broken levee ? ? ? ? ? evacuation of
    affected area).
  • Seriously rethink the implications of changes in
    risk appetite/tolerance and ambiguity aversion
    for risk management strategies and corporate
  • Decision-Makers must become critical consumers of
    this technology not just passive receptors.

Summary Remarks
  • The All-Hazards paradigm will become central to
    the policy dialogue in the years to come
  • Policies and institutional regimes must be
    flexible and responsive to the evolving threat
    environment both man-made and natural
  • TRIEA 05 is an important component in the
    countrys ability to confront and manage extreme
  • Public/Private partnerships are essential

Second ViewGovernment as Ultimate Risk
ManagerWhat Role Should the Federal Government
Play in Managing Extreme Events?
Components of the Second View
  • Motivation
  • The need for a public dialogue about natural
    disaster risk
  • The Protection of People and Property as a
    Paramount Responsibility
  • What Role Should the Federal Government Play?
  • Potential Policy Responses What Works and What
  • Concluding Remarks

The Need for a Public Dialogue About Natural
Disaster Risk
  • The hurricane season of 2005 will surely be
    remembered for decades to come not just for the
    human and economic toll that it extracted on
    those living in the Gulf Coast and Florida, but
    also for the profound influence it will have in
    shaping the public dialogue in the U.S. about how
    large-scale natural catastrophes should be
    managed in the post-9/11 era
  • This dialogue holds the promise of engendering
    substantive changes in the interconnected web of
    social, political and economic systems that
    through a variety of formal and informal
    mechanisms shift, spread, or reduce the myriad
    risks that pervade life in the 21st century
  • This years hurricane season brought with it a
    degree of destruction and devastation not seen in
    this country since the late 1920s
  • Moving forward
  • How should we, from a societal perspective, shape
    our collective destiny in light of what has
    tragically come to pass?
  • How might we do things better the next time
    around, taking into consideration all of the
    attendant risks and complexities?
  • What role should the federal government play in
    managing natural disaster risk?

Fundamental GoalThe Protection of People and
Top 10 Deadliest Hurricanes to Strike the US
Hurricane Katrina was the deadliest hurricane to
strike the US since 1928
Could be as high as 12,000 Could be as high as
3,000 Midpoint of 1,000 2,000
range Associated Press total as of Dec 11,
2005 Midpoint of 1,100-1,400
range. Sources NOAA Insurance Information
Global Number of Catastrophic Events, 19702005
The number of natural and man-made catastrophes
has been increasing on a global scale for 20 years
Record 248 man-made CATs record 149 natural
CATs in 2005
Man-made disasters without road disasters.
Source Swiss Re, sigma No. 1/2005 and 2/2006.
Insured Property Catastrophe Losses as Net
Premiums Earned, 19832005E
US CAT losses were a record 13.8 of net premiums
earned in 2005 and were 4.2 times the 1984-2004
average of 3.3
Insurance Information Institute figure of 13.8
for 2005 based estimated 2005 DPE of 417.7B and
insured CAT losses of 57.7B. Sources ISO, A.M.
Best, Swiss Re Economic Research Consulting
Insurance Information Institute.
What Role Should the Federal Government Play?
Two Countervailing Viewpoints
  • In the vigorous public dialogue that has ensued
    in the wake of Hurricane Katrina, two
    countervailing viewpoints have emerged concerning
    how society should pay for mega-catastrophes
  • Each of these viewpoints proceeds from a
    particular vantage point and set of beliefs about
    the role of government in managing and financing
    natural catastrophe risk
  • On the one hand, there are those who believe that
    natural catastrophes are fundamentally
    uninsurable and that the federal government
    should serve as the ultimate risk manager in
    these instances
  • Key assumption the federal government is in the
    best position to mitigate large losses (economic
    and otherwise), in economically efficient ways
  • On the other hand, there are stakeholders in the
    debate that believe that the private sector and
    the free-markets are in the best position to
    adjudicate and manage these risks for those who
    choose to insure privately
  • According to this view, the solution to the
    insurance dimension of this problem is not more
    government involvement and regulation, but
    rather, less
  • Relaxing regulatory constraints and stringent tax
    policies will, they argue, stimulate markets to
    craft creative solutions to the problem of who
    pays? for mega-catastrophes.

Identifying Appropriate Federal Policy Responses
  • In the coming years, these two opposing
    viewpoints will take center stage in numerous
    public policy debates seeking workable solutions
    to how we, as a country, move forward in light of
    the difficult lessons of Hurricane Katrina
  • For its part, the U.S. Congress is likely to
    consider a broad range of proposals. For example
  • Look for ways in which specific federal insurance
    programs like the National Flood Insurance
    Program can be improved
  • Potentially sweeping changes in how the nation
    deals (both ex ante and ex post) with
    mega-catastrophes, both natural and man-made
  • While it is early to speculate as to what this
    process will yield by way of specific mandates,
    statutes and potential reorganizations of
    government, it is clear that change will be an
    inevitable feature of the institutional
    arrangements, mechanisms and conceptual schemes
    that have traditionally governed our thinking
    about how disaster policy should be formulated
    and implemented in this country

The Case For a Federal Natural Catastrophe Program
  • Arguments in favor of a substantive federal role
    in the financing of natural disaster risk almost
    invariably proceed from a rather basic premise
  • some risks are simply too large or unpredictable
    to be
  • insurable within the current institutional,
    financial and
  • regulatory frameworks that govern private
  • markets in this country
  • At the heart of these debates is the view that
    mega-catastrophes may soon exceed the ability and
    capacity of private insurance markets to deal
    effectively with incidents of this magnitude
  • In the wake of Hurricane Katrina, some insurers
    and other relevant stakeholders are openly
    questioning whether natural catastrophes of this
    magnitude are insurable via the private markets

Policy Proposals Towards a Comprehensive NAT CAT
  • Most of the proposals envisage a three-layer
  • Policies sold by individual insurance companies
  • State or regional catastrophe pools that provide
  • A national mega-catastrophe fund that provides a
    federal backstop for large-scale insured losses
  • For its part, the U.S. House of Representatives
    has introduced two bills, the Homeowners
    Insurance Availability Act of 2005 (H.R.846) and
    the Homeowners Insurance Protection Act of 2005
    (H.R. 4366), both of which would create federal
    catastrophe reinsurance programs
  • Under H.R. 846, the Treasury would auction
    so-called excess-of-loss reinsurance contractsa
    type of reinsurance that provides coverage above
    specified levels of loss
  • Under H.R. 4366 the Treasury would be authorized
    to sell reinsurance contracts directly to
    eligible state catastrophe funds

NAICs Comprehensive National Catastrophe Plan
  • Proposes Layered Approach to Risk
  • Layer 1 Maximize resources of private insurance
    reinsurance industry
  • Includes All Perils Policy
  • Encourage Mitigation
  • Create Meaningful, Forward-Looking Reserves
  • Layer 2 Establishes system of state catastrophe
    funds (like the Florida Hurricane CAT Fund)
  • Layer 3 Federal Catastrophe Reinsurance Mechanism

Source Insurance Information Institute
Objectives of NAICs Comprehensive National
Catastrophe Plan
  • Should Promote Personal Responsibility Among
  • Supports Reasonable Building Codes, Development
    Plans, and Other Mitigation Tools
  • Maximize the Risk Bearing Capacity of the Private
  • Should Provide Quantifiable Risk Management to
    the Federal Government

Source NAIC, Natural Catastrophe Risk Creating
a Comprehensive National Plan, Dec. 1, 2005
Insurance Information. Inst.
Existing Federal Insurance Programs
  • Another reason that is often cited for expanding
    and enhancing the role of the federal government
    in financing natural catastrophe risk is that the
    federal government is, of course, already
    involved in numerous federal insurance programs,
    two of which deal specifically with natural
  • The Federal Crop Insurance Program
  • The National Flood Insurance Program
  • These two programs are subsidized by the terms
    stipulated in their authorizing statutes and, at
    present, participation in the programs is
  • Programs such as these are often criticized for
    the inherent difficulties in assessing the
    governments true risk exposure and in setting
    premiums commensurate with that exposure
  • Moreover, organizations such as the National
    Association of Insurance Commissioners have
    argued that requiring homeowners to purchase
    multiple insurance contracts to protect their
    property is both cumbersome and inefficient

Complicating Factors Going Forward
  • Going forward, regulatory constraints may not
    allow insurers to charge actuarially sound rates
    that reflect the increased levels of risk
  • Moreover, the price and availability of private
    reinsurance is volatile
  • For these and a host of other reasons, the 2005
    hurricane season has given risk managers within
    the property/casualty insurance and reinsurance
    industries much to consider
  • For example, with many of the exposure
    predictions and projected loss estimates made
    prior to this years hurricane season proving, in
    hindsight, to be grossly in error, catastrophe
    models have come under considerable criticism and
  • Many insurers and reinsurers are openly
    questioning their confidence in these models. As
    one exasperated insurance CEO recently exclaimed,
    They just dont know what theyre talking about
    they say these events are 1-in-100, 1-in-250,
    1-in-1000, or maybe its 1-in-1,000,000, but they
    have no idea
  • Many within the industry fear that the risk
    assessment component of the insurance
    underwriting process may grow increasingly
    complex and unmanageable, as the coming decades
    may be marked by hurricane activity levels that
    well exceed recent historical baselines
  • Difficult questions and complex scientific
    debates concerning the manner and degree to which
    global climate change is responsible for these
    emerging weather patterns will surely complicate
    matters even further

The Case Against a Federal Natural Catastrophe
  • Most of the reticence on the part of insurers to
    back the idea of a federal backstop for large
    natural catastrophes stems, at a basic level,
    from a firmly-rooted laissez-faire mindset as to
    how insurance markets should operate in the
    global economy
  • They believe that increased federal involvement
    and regulatory authority in these markets is
    something to be avoided, because such actions
    hold the potential to, in effect, crowd out
    private insurance and reinsurance markets, and to
    stifle innovation within these markets
  • In this context, it is often argued that the
    relationship between price and risk assumed is
    diminished, as federal insurance programs are
    rarely actuarially sound
  • With regard, then, to natural catastrophe risk,
    the fundamental belief is that this class of risk
    is, indeed, insurable in the free markets

Does the Evidence Support the Free Market View?
  • Perhaps the truest measure of the veracity of
    this claim is that the free markets have, thus
    far, performed well under especially trying
  • The global insurance industry has experienced
    unprecedented disasters over the past four years
  • The tragedy of September 11th, at that time the
    most significant insurance catastrophe in history
  • Record tornadoes and wildfires in 2003
  • Four major hurricanes in Florida in 2004
  • Hurricane Katrina will cost the insurance
    industry in excess of 40 billion, according to
    estimates by ISOs Property Claims Services, but
    more of the cost will be borne by reinsurers than
    in previous years

Insurance Industry Resilience
  • Wall Street analysts expect the insurance
    industry to be able to pay Katrina claims without
    any significant weakening of its overall
    financial strength
  • Standard Poors has stated that, for most of
    the companies that the ratings agency follows,
    Katrina will depress earnings for several years
  • Catastrophe reinsurers will be the most severely
    impacted segment of the industry, and prices for
    property catastrophe reinsurance will likely
    increase significantly due to heightened
    expectations concerning the frequency and
    severity of natural disasters worldwide
  • Clearly, the industry has responded well during
    this unprecedented period, demonstrating both its
    financial resilience and its commitment to
    individual and corporate customers

Potential Policy ResponsesWhat Works and What
Successful Tools for Controlling Hurricane Risk
  • Strengthened building codes
  • Stringent enforcement of building codes
  • Fortified home programs
  • Insurance rates based on sound actuarial
    principles (rates that are not government
    controlled) Works for commercial insurers
  • Limits on underwriting
  • Removing impediments to capital flows
  • Incentives to adopt mitigation
  • Forcing communities to consider their own
    catastrophe exposure

Source Insurance Information Institute
Unsuccessful Tools for Controlling Hurricane
  • Insurance rates that arent actuarially sound
  • Political interference in rate process
  • Inadequate underwriting controls
  • Subsidies
  • Intra-state (policyholders/taxpayers)
  • US Taxpayer
  • Litigation
  • Retroactive rewriting of insurance contracts
  • Low flood insurance penetration rates

Source Insurance Information Institute
Problematic Issues
  • Local control of land use and permitting creates
    significant incentive problems
  • Benefits accrue locally while many costs can be
    redistributed to others via taxes, insurance,
    insurance assessments and aid
  • Prospect of government aid reinforces unsound
    building and location decisions
  • States dont want to raise taxes to pay for
    mitigation/prevention even if state is sole
  • E.g., NO levees Beach replenishment

Source Insurance Information Institute
Recommendations for Controlling Hurricane Exposure
  • Raise public awareness of risk
  • Mandatory risk disclosure in all residential real
    estate transactions
  • Require signed waivers if decline flood coverage
    that also waive rights to any and all disaster
  • Continue to strengthen and enforce of building
  • Allow markets to determine all property insurance
  • Increase incentives to mitigate
  • Require state-run insurer and reinsurer to charge
    actuarially sound rates
  • Limit state-run insurer exposure to high-value
  • Require communities/counties to a financial stake
    in their catastrophe exposure
  • Reimburse disaster aid to state/federal government

Concluding Remarks Moving Beyond the Potential
  • Regardless of where specific industry
    stakeholders stand on the continuum of viewpoints
    outlined above, there are areas where they may
    find some basis for agreement and common ground
  • Most stakeholders will agree, for example, that a
    key responsibility for P/C insurers is to play
    their important and substantial role in the
    overall risk mitigation process
  • In the case of large-scale natural disasters, it
    is important for federal, state and local
    officials to understand and appreciate the role
    that insurance plays in both minimizing loss and
    expediting recovery
  • In order to move beyond the potential impasse in
    which the industry could find itself with regard
    to these issues, what is needed is an earnest
    attempt on the part of the public and private
    spheres to look for areas where government can
    facilitate market-enhancing opportunities and
    more efficient private-sector coordination
  • Practical proposals to this end will include such
    activities as the encouragement of various loss
    mitigation strategies, including strong building
    codes and improved land-use planning
  • Going forward, the challenge remains one of
    finding workable means and mechanisms by which to
    align incentives in ways that jointly enhance
    social welfare and the market
  • The two activities do not necessarily need to be
  • as being mutually exclusive

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