Beyond compensation: the insurance industry's role in climate resiliencePosted On: Aug. 7, 2017 12:00 AM CST
Nearly 2,000 disclosures to a climate questionnaire issued last year by CDP, a London-based organization that works with shareholders and corporations to disclose greenhouse gas emissions, revealed that one in five companies rely on insurance as a part of their climate change risk management strategy, not just to compensate losses but also to guide investments in prevention and protection.
Private-sector strategies to continue operations and reduce financial losses in the face of intensifying storms, sweltering temperatures and pressured supply chains include a variety of process-driven and engineered measures, from strengthening relationships with partners to building flood barriers.
Insurers informed many of these strategies as companies in manufacturing, utilities, pharmaceuticals and others looked to their insurers as the thought leaders on climate risk and relied on their models for downscaled climate data. Coloplast A/S, a Danish pharmaceuticals company, relies on its property insurer FM Global as its “main assets safety advisor to identify and mitigate climate-related risks.” Praxair Inc., a chemicals company, also depends on its insurer for “rigorous standards based on their own scientific research and proven solutions that often go beyond national recommendations.”
Insurers’ assessments often lead to investments in more resilient infrastructure.
Equinix Inc., a technology company, involves its insurer at the building design phase to incorporate climate projections into decisions about floor height, placement of storage tanks, maintenance schedules and more. Georg Fischer, a Swiss electrical equipment company, involved insurance expertise after its Traisen, Austria, production site flooded. The company decided to build dams and channels based on projections of intensifying rainfall events.
Insurers’ responses to climate risks
For insurers, engaging on climate risk management is a business prerogative. More than half of the 42 insurance companies that publicly disclosed to CDP, formerly known as the Carbon Disclosure Project, said physical climate change impacts could result in increased operational costs; four reported that climate change could result in an “inability to do business.” MMI Holdings Ltd. puts it succinctly: “The risk is that the impact of climate change on claims will rise faster than expected and that premiums will not be adequate to cover the shortfall.”
So, what are insurers doing? The CDP data reveals a range of responses, from hiring climate modelers to buying more reinsurance to diversifying geographies to withdrawing policy coverage from assets deemed too risky, such as those in certain coastal areas.
Many of these climate risk management strategies are focused on business continuity for the insurer itself. But given the fact that so many companies in other sectors look to insurers as the guiding light toward climate resilience, do insurers have an obligation — and an opportunity — to think about climate resilience more broadly?
There are several ways that insurers could expand their resilience strategies. They could directly incentivize adaptive measures among their customers through rate adjustments. For instance, Chubb Ltd. offers lower rates for clients that mitigate their exposure to storms by retrofitting buildings to comply with updated building codes, install hurricane shutters or relocate infrastructure away from coastlines and floodplains.
Insurers could also work to close the protection gap, which refers to the fact that 70% of the economic losses from natural disasters over the past decade were uninsured. Parametric insurance models that offer a predetermined payment in the case of a triggering event such as a hurricane or drought are one way to expand insurance coverage in vulnerable areas. Lowering the barriers to entry regarding modeling could also help. The Oasis Loss Modeling Framework is working to do just that, with more than 40 corporate members committed to broadening the market for risk analytics and democratizing data.
Thinking on a landscape scale
However, one of the most effective things insurers could do is promote landscapescale interventions that reduce climate risk for an entire coastline or city. Examples of this are hard to come by, but there are a few. Swiss insurer Helvetia has an initiative to plant at least 10,000 trees per year, recognizing that forests “are an important measure to safeguard against damage [from] rock falls, landslides, avalanches and mudslides.”
One Japanese insurer, Tokio Marine & Nichido Fire Insurance Co., quantified the risk reduction associated with its work (with partners) to plant 8,994 hectares of mangroves in nine Asia-Pacific countries since 1999. Although the company’s main goal was to offset the emissions of its business operations, a recent evaluation showed that the initiative provided disaster risk reduction to at least half a million people, valued at $55.8 million; shoreline stabilization and erosion control provided an additional $71.1 million in ecosystem services.
This evaluation echoes a growing body of evidence that nature-based solutions such as wetlands, mangroves and cloud forests have quantifiable resilience benefits. For example, mangrove belts of sufficient width can reduce flooding from tsunamis by up to 30% and cut wave height by up to 100%, according to the World Bank’s WAVES initiative.
Could actuaries one day reduce premiums for companies that protect coastal wetlands or upstream forests just as they adjust rates for engineered infrastructure such as flood barriers and hurricane shutters?
Investing in nature
To do this, scientists will need to continue to improve understanding of the climate risk mitigation values of nature and translate those values into metrics that insurers can include in their risk modeling. There have been some efforts to do this, such as The Nature Conservancy’s work with Swiss Re to model the value of natural coastal defenses in the Gulf of Mexico. But it’s still early days.
In the meantime, perhaps the biggest impact insurers could have is through their investment portfolios, currently valued at $30 trillion, or about a tenth of the value of the global financial markets. A 2015 analysis by the Asset Owners Disclosure Project found that out of 116 insurers with a combined $15 trillion in invested assets, only 14 companies were protecting their portfolios from climate risk, investing just $30 billion in low-carbon assets. If invested differently, this money could have a huge impact on climate resilience globally.
Beyond simply protecting their assets by, for instance, screening their portfolios for greenhouse gas emissions, insurers could actively invest in societal resilience by participating in the rapidly growing green bond market. Green bond issuance reached $93.4 billion in 2016, a doubling from the previous year. Most of this investment has historically gone toward major infrastructure projects such as renewable energy or public transportation, but new pilots demonstrate how to use the green bond market to promote nature-based solutions to climate change.
With input from Conservation International and support from BHP Billiton, the International Finance Corporation recently issued a first-of-its-kind Forest Bond to finance a project that prevents deforestation in Kenya. Investors can choose to receive their return from the $152 million bond in the form of cash, carbon credits, or a combination of the two. A similar bond model might work for an ecosystem that produces measurable resilience, such as a mangrove, with benefits flowing to investors in the form of volume of stormwater retained or wave height reduced – metrics that could be translated into dollar values of avoided losses.
These are investments that insurers could facilitate alongside other investors in the near-term. Such investments could then feed into a longer-term goal: to measure the effectiveness of ecosystem-based adaptation over time, informing insurers’ assumptions about how to appropriately adjust rates for companies that protect natural defenses.
Allie Goldstein is a scientist at Conservation International. She Can be reached at 703-341-2508 or firstname.lastname@example.org.