Managing Risks of Climate Change

Insurers and Climate Change

Insurance and Impacts of Climate Change

An article by Mark Searles from CGU, May 2012

There is widespread debate about human-induced climate change; whether the oceans are warming, whether the ice caps are melting.
As an insurer, what we do know is that the frequency and intensity of severe weather events is increasing.

According to the Insurance Council of Australia, between 2000 and 2005, there was just a single industry-wide insured event over $400 million - the 2003 Canberra bushfires which in today's dollars would have totalled $660 million.

Over the past 5 years, there have been eleven events with an industry-wide total loss of more than $400 million. It's even more staggering when you consider that six of these events totalled in excess of $1 billion.

From coast to coast, Australians have experienced floods, bushfires, wild storms, tropical cyclones and hail. All up, the total insurance bill has raced past $5 billion.

Not long ago an event like Tropical Cyclone Yasi would have been considered a freak occurrence that was highly unlikely to be repeated in the near future.

I wasn't in Australia at the time, but I'm sure there were a few about who thought the same thing about Tropical Cyclone Larry just in 2006.

Additionally, these events are not just restricted to the upper reaches of Queensland. There have been wild storms and floods across Victoria for the past few summers - and of course the tragic 2009 Black Saturday bushfires.

Perth and Sydney have experienced violent hailstorms while enormous
rainfall deluges have resulted in flash flooding in most states capitals.
Still, you could almost say Australia got off lightly when you consider events such as the Japanese earthquake and tsunami, the two New Zealand earthquakes and flooding in Thailand.

Insurers and government
These events, particularly those in Southeast Queensland, have resulted in numerous government inquiries, at both the state and federal levels. To varying degrees, they have all looked at how insurance has responded to customers in their time of need.
It's a fact often over-looked, but the Australian general insurance industry pays claims. Alot of them.

For the past few years the industry has consistently paid out close to $100 million each and every working day and accepted 98% of all claims received.

That's a serious level of financial commitment to the community.
The recently announced 2012/13 Federal Budget made a commitment of $26.1 million per year for the next four years to natural disaster resilience.

That's the equivalent of four years of Federal Government commitment for every one day of industry claim payouts.
That's a serious imbalance.

In September last year, IAG CEO Mike Wilkins addressed the Trans Tasman Business Circle where, speaking about disaster mitigation, he said over the past four years we've spent 220 times more on the cure than prevention.

This is the equivalent of sitting by and doing nothing to educate smokers on the risk of smoking and then simply accepting the huge health bill down the track.

Mitigation and insurance
Last week, Suncorp announced they would not be writing any new home or contents business in Roma or Emerald; two towns notorious for being impacted by floods.

In justifying the decision, Suncorp said the company had drawn just $4 million in premium from the two towns, while handing over $150 million in claims.

This was largely seen as a broadside to the lack of mitigation work authorised by government.
The availability of insurance has been a frequently discussed topic in recent months, with a wide variety of opinions and perspectives put forward.

The insurance industry has for many years talked about the need for mitigation to protect homes and businesses.

Building codes have improved and construction materials have advanced.

But the basics, such as appropriate town planning, continues to lag.
I'm not for an instant suggesting the solution is that government should move entire towns. But there must be a comprehensive examination of all available mitigation measures that can safeguard against threats such as flood.

The Suncorp decision is a stake in the ground. Insurers are saying they are no longer willing to write cover for risks that perpetuate while the state and federal governments make no meaningful effort to mitigate the damage.

Insurance cover should be available to every single Australian home but it needs to be priced appropriately.

Let me state first that that CGU does not red-line areas.
There are few better ways to understand a community and the risks they face on a day-to-day basis than to be part of it.

Some regions of Australia have historically been turbulent, and continue to be turbulent. But walking away isn't the solution.
The arguments about strata premiums in Northern Australia have been particularly vocal, but CGU has remained in the region and has on numerous occasions attended community forums to hear first-hand from concerned

While our message hasn't always been welcomed warmly, the mere fact that we attended and took the time to explain our position helped build respect.

We have taken the same approach - and received a similar response - to our introduction of flood cover. From February 1 this year, CGU began automatically including flood cover in our home and contents policies. By not allowing customers to opt out, some claimed CGU was abandoning the market by charging higher premiums or even by stealth.

While that's a simplistic and incorrect view, the decision by Suncorp concerning Roma and Emerald has precipitated discussion on a real topic.

At what point do insurers stop wearing the financial losses and abandon unprofitable markets?
Perhaps the more appropriate question is when will government begin to provide appropriate mitigation to allow insurers to continue offering affordable levels of insurance'?.

Impact on insurers
The increasing frequency and intensity of these weather events has caused some rapid changes to the way insurers underwrite risk.
Pricing has had to increase to better reflect the costs associated with writing

Residents in northern Australia were so outraged at increasing strata premiums that a House of Representatives Inquiry was convened to look into the skyrocketing cost of insurance.

In January, CGU appeared before the inquiry and discussed the impact of weather events with increasing frequency and intensity on an ever-developing urban environment.

Our evidence centred on the rising costs of offering products in Northern Australia. We highlighted not only increases to our own claims costs, but the increasing costs to reinsurance.

Rising Reinsurance Costs
2011 was the most expensive year on record for global re-insurers. The Asia Pacific region accounts for roughly 3% of global reinsurance revenue, yet in 2011 we accounted for 10% of their claims.
Rising re-insurance costs are, in turn, placing further pressure on primary insurers who were already adjusting to their own risk modelling which indicated prices needed correcting.
Statistics from Munich Re indicate a near 200% increase in the number of meteorological events in the Oceania region between 1980 and 2010.

When you also consider geophysical, hydrological and climatological events, it's a near 250% increase in all events combined from 1980 to 2010.

This is not the dollar value or intensity of events, just the sheer volume.

Now think about how cities have developed since 1980. Towering skyscrapers, solar panels, fancier cars - there is a lot more exposed to damage.

So while a 250% increase in the volume of events is significant, so too is the potential value of damage that can occur.

Community action
Communities across Australia are feeling the pain of higher insurance costs. Many insurers, such as CGU, started introducing flood cover in the wake of the 2011 summer. This increased of cover doesn't come cheap to high-risk communities.

Insurers have a vested interest in offering policies. If we don't sell any policies, then we can't pay our staff and make returns to shareholders.
However, greater accountability is required from government at all levels.

More particularly, local councils need to ensure that additional development isn't permitted in areas clearly on flood plains or subject to extreme bushfire risk.

There are many instances of questionable planning policies that have allowed development in areas known to be prone to flooding or at extremely high-risk

Where development has occurred, we need to explore methods to mitigate against possible loss - be it flood levees or additional land clearing to create fire breaks.

In certain cases we should also look at land buy-back. This approach is already happening in areas like Grantham where around 70 families are moving to new land under a $40 million local government scheme.

A similar approach is underway in Christchurch, where the government is offering money for land deemed to be at extreme risk after the recent quakes.

Where appropriate steps are taken by government, the return on investment can be rapid. For example, the far north NSW town of Lismore spent $19 million on a levee in 2005. Shortly after this, the town experienced a one-in-ten year flood and an estimated $15 million in recovery costs was saved.

These savings will multiply in future years when the area inevitably floods again.

That's another issue to consider - "when the area inevitably floods again".

If an area is prone to flooding then it won't flood once and be secure for the next 100 plus years. It will flood whenever the environmental circumstances determine that it will.

Climate change and premiums
The impacts of climate change, for the insurance industry at least, are a higher frequency of weather-induced natural perils, and increased claims costs and frequency.

These increasing costs need to be reflected in premiums or else there will be no insurance industry to even pay a premium to.

That may sound drastic, but it's the logical conclusion if premiums are not set at sustainable levels to meet the cost of claims.

Strata insurance is a clear example of why premiums need to return to sustainable levels. In many ways, tropical cyclone Yasi was the straw that broke the strata camel's back.

Premium increases had been steady in the preceding years, but the claims costs and reinsurance costs were increasing at a faster rate. This had resulted in insurers chasing their costs to offer the product in Northern Australia.

The past twelve months of premium increases has not been an attempt to recoup previous losses.

Rather it is a market correction; it is insurers moving premiums to a sustainable level to meet the expected needs of future claims.
There is an overwhelming need for insurers to balance the risk they are underwriting with the price they are charging. If you look at recent years it's not difficult to see that premiums have been increasing to match the seemingly ever increasing claims costs.

Product lines such as home, farm and strata have been under pressure as claims costs have gradually increased over the previous years. As Australia's largest regional and rural insurer, CGU has a commitment to continue offering cover for these lines.

There has been a process of adaptation and a need to better judge the risks we're asked to consider.

It's no longer of a matter of covering a farm based on the customer being a good bloke. Premiums are being corrected and risk appetites adjusted. Sometimes, it means long-standing relationships suffer when unpopular decisions are made.

Educating communities
A key to generating understanding and acceptance of rising premiums is community education.

If you told me my car needed a new oil filter and it would cost me $5,000, I'd be justifiably annoyed.

But if you had explained to me how use of better quality oil over the long-term could help prevent the filter breaking down, I'd be more inclined to do something about it.

I believe the key to empowering a community to mitigate against their risks is to educate them on the long-term benefits.

There are many vulnerable towns like Lismore throughout Australia that could benefit from some long-term vision to safeguard against the threats of flood or bushfire.

But most in the community have no understanding of what risks they face and just how exposed they are.

Before launching our flood product we conducted some research of customers about their knowledge of various aspects of insurance.
The research showed that nearly 60% of consumers didn't know the difference between flood and storm water.

Definitions aside, that's concerning.

When we asked if they thought flood insurance should be included in their policies, 93% said it should be included, be it automatic or as an additional extra. Yet 55% could not bring themselves to pay more than $1 a week for this coverage.

These results show a very clear disconnect between expectations of insurance cover and a realistic grasp of what this cover is likely to cost.

The Changing Threats
The threat of flood or bushfire is, to a degree, predictable. We can't say a region is going to flood in 12 months time, but we can look at the environmental factors and know if an area is more likely to flood.

What you can't predict are the large super-cell storms that sweep up and cause untold damage in a matter of minutes.

The March 2012 Melbourne and Perth hailstorms came out of nowhere and together cost the insurance industry more than $2 billion.
Even the Melbourne Christmas Day storm had an insurable cost of nearly $700 million.

These are not small events!

I mentioned earlier that Insurance Council statistics show eleven $400 million plus events since 2006.

Seven of these events were large scale storms, and the impact isn't just felt by insurers.

A storm that swept through Sydney on 8 March this year resulted in the city experiencing the wettest March day in 25 years.

There was extensive flash flooding through the CBD, with Observatory Hill recording 110mm of rainfall, with 40mm of this between 7:30 and 8:30am, the height of peak hour.

Buses were impacted by road closures, ferry services were cancelled and train services ground to a halt.

Over 2,000 homes and businesses lost power and the State Emergency Service carried out 19 flood rescues.

While the insurable cost wasn't going to break any records, the additional cost to society was staggering. The time lost to business as employees spent 3 hours commuting to work and the cost to government to repair infrastructure.

These types of events are near impossible to mitigate against.
Living in an urban environment we need to expect damage from severe weather.

We can design buildings with the highest rated glass for the windows.

We can build drainage systems to cope with 1 in 100 year level deluges.

But if the intensity and frequency of storms continues to increase, eventually we're going to fall behind the 8-ball.

The Climate Commission recently released a report: The Critical Decade, NSW Impacts and Opportunities.

Chief Commissioner Professor Tim Flannery said that failing to respond to climate change will have severe costs to our economy, our health and the natural environment.

The report went on to say that NSW, home to over a third of Australians and over 30% of the nation's economy, is highly vulnerable to climate change.

Additionally, coastal infrastructure would be at serious risk of flooding with a 1.1 m rise by the end of the century could put between 40,000-60,000 houses, 1,200 commercial buildings and 250km of highway at risk of inundation.

88 years may seem a lifetime away, but it may just be something that our children experience if we remain set in our reactive approach to mitigation.

Mitigating against climate change is not something that can be achieved overnight. There are many factors that can influence whether a town will be inundated by a river breaching its banks or whether a bustling CBD will be brought to its knees by a looming super-cell storm.

We are largely coastal living society. While aesthetically this is a very appealing, it leaves us more exposed to Mother Nature when she gets angry.

The wheels of government can at times move very slowly, but they do turn. The insurance industry is taking seriously its responsibility to get them moving faster.

Lismore is a great example of what a community can do when it values its long-term future. Spending $19 million on a levee may seem expensive to many of the residents, and you can't expect every vulnerable city to have the funds available. This example further underlines the positive impact government can have in providing the funds for required mitigation.

The 2012/13 budget included a $175 million dividend from the Australian Reinsurance Pool Corporation. If just half of these funds were instead diverted to mitigation spending, it would be a significant step in the right direction.

Following the 2011 Brisbane floods, some politicians called for vast networks of dams to stem the flow of flood waters. This may be a little drastic, not to mention expensive. But it's a start. As is proper planning so that we stop building in areas known to be prone to flooding, and avoid development in areas that are at high risk of bushfire.

I believe there are three very simple lessons that will position the insurance industry and the community to weather the impact of climate change.

Firstly, we need to understand and manage the risks to our communities. This means being absolutely transparent about what the risks are. Allowing insurers access to data and allowing residents to see their personal risk - so they can take appropriate action - is an important step.

Secondly, once we understand the risks, we must take action to minimise them, through stronger buildings, better infrastructure or simply by moving further away from them. Reducing our exposure to risk means we are keeping costs manageable. Moreover, we can use funds more efficiently for prevention, rather than cure.

Thirdly, we must ensure that communities are fully aware of residual risks and that individuals have options to manage them through a robust private insurance market.

The private insurance market has served Australians for over a century; in CGU's case for over 160 years. Throughout that time, the industry has injected enormous amounts of funds into communities when they needed it

As the risks facing our communities continue to evolve and change, we look forward to sharing our knowledge to help make our communities safer and hopefully minimising the impact of a changing climate.

Global Risks Report 2013

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