Canadian Connections to Global P3s

Hurricane Ivan churned through the Caribbean Sea in 2004, leaving a trail of death and destruction in both Grenada and the Cayman Islands. Jamaica and other islands caught in Ivan’s path also suffered severe damage.

Later the same year, Hurricane Jeanne caused severe flooding in Haiti, resulting in more than 3,000 deaths, compounding the damage already suffered in the Bahamas from an earlier storm, Frances.

However, in addition to the suffering caused from these catastrophic events, the regional governments had to confront the challenge of financing the disaster. This not only included the emergency expenses for relief activities in the immediate aftermath of the event, but also the medium-to long-term impact of lower tax revenues, economic revitalization costs and reconstruction. Often these challenges create such a burden on the public sector that even minor events in insurance terms become major catastrophes in economic terms.

MULTINATIONAL INSURANCE FACILITY

Faced with calls for financial assistance from the beleaguered governments of the affected countries in the Caribbean, the World Bank began looking for a mechanism that would allow for an effective future response to these catastrophic events that are, unfortunately, common in the region. The solution, launched in 2007, was the Caribbean Catastrophe Risk Insurance Facility (CCRIF).

The CCRIF is the first multinational parametric insurance facility. It is set up like a captive, owned and operated by Caribbean governments. Its parametric insurance policies provide quick payouts to the region’s governments, based on wind speed and seismic activity, and help offset a government’s disaster-related financial costs. A reinsurance structure, along with its own capital base, is modeled to allow CCRIF to survive a 1-in-10,000-year event.

Participation in CCRIF is voluntary for the regional governments. Coverage and premiums are based on modeled 15-year wind and 20-year earthquake events, with a maximum US$100- million policy limit per event. The CCRIF has made several payments over four years to its member countries, the most recent being in September to Anguilla following Hurricane Earl. In Haiti earlier this year, the CCRIF paid out within days of the earthquake, providing critical emergency funds to keep police on the streets and pay the salaries of civil servants.

The CCRIF is currently planning to introduce a ‘rainfall’-based option to the existing triggers; also, it is exploring specific products for the agricultural and electricity transmission sectors.

Most importantly, the CCRIF has proven insurance tools can help countries plan for and pre-finance natural disasters; this complements a government’s other financial instruments, such as sovereign debt. With this success, many of the facility’s supporters are now working to introduce the concept to other parts of the world.

CANADIAN-CARIBBEAN RELATIONSHIP

Swiss Re in Canada first became involved in the CCRIF’s reinsurance program in 2008. The Canadian operation of Swiss Re has been responsible for underwriting the company’s participation in the English Caribbean reinsurance portfolio since 2001. Reinsurance broker Aon Benfield approached Swiss Re to become a key reinsurance participant on the CCRIF program.

Historically, Canada has had a strong relationship to the Caribbean. In addition to being members of the Commonwealth, banks and insurers from Canada play a critical role in the Caribbean financial system. A large number of expatriates ensure the cultural links between Canada and the Caribbean remain strong.

For Swiss Re in Canada, these cultural and business relationships have deepened as the company increases its underwriting knowledge of the local market conditions and risks. In the case of the CCRIF, given the specialized nature of this parametric cover, the local market expertise was amplified by drawing upon a number of resources from around the globe — including catastrophe modeling and rating and legal contract review. In addition, close coordination between the local client management function and Swiss Re’s global public sector team allow this important client to receive the service that Swiss Re delivers.

Canada plays a critical role in the CCRIF due to the role the Canadian International Development Agency (CIDA) played in the development and launch of the facility. CCRIF funding was raised largely in the form of pledges from various countries; Canada provided one of the largest contributions to the startup capital (US$20 million out of the US$47 million initially raised). Furthermore, the Canadian government’s lead role on issues relating to environmental and climate changes have made Ottawa a lead advocate in establishing the financial mechanisms to absorb the financial impact of natural catastrophes.

LEARNING FROM THE CCRIF

This raises the most important question: when will it be Canada’s turn to implement such disaster risk-financing solutions in its own provinces? The 2010 hurricanes and floods in Newfoundland and British Columbia, as well as the record-setting hailstorm in Alberta, highlight just how exposed Canada can be to Mother Nature. Furthermore, there is a soon-to-be-released discussion paper jointly published by Swiss Re and the Institute for Catastrophic Loss Reduction (ICLR) on flood risk, entitled Making Flood Insurable for Canadian Homeowners. This paper highlights an important distinction between what consumers and insurers define as “flood,” with many homeowners incorrectly believing they have overland flood insurance. This is currently not available in Canada as part of a homeowner’s policy. Most policies cover basement flooding but not overland flooding damage.

The report concludes criticism of flood insurance in Canada can be countered by the bundling of flood coverage in typical homeowner policies. This would spread premiums across a large community to keep rates low and avoid government subsidies. The paper also states continual application of land use regulations to discourage development in floodplains is key. It praises the present floodplain regulation and states any insurance program would supplement it and not replace it.

The report says an insurance system based on risk-based premiums or deductibles can provide greater benefits than the current focus on government relief programs provided by provincial governments in Canada. But it will take a partnership between government, the insurance industry and private homeowners to develop and sustain a flood insurance system in Canada.

Finally, in this era of rising deficits and constrained fiscal options, securing funds before a disaster is a better political and economic solution than waiting for funding from international capital markets or taxpayers after a disaster occurs. This is as true in Canada as it is in the Caribbean.

Recent developments demonstrate options and precedents for Canada. Swiss Re completed a parametric insurance transaction with the state of Alabama in the United States in July, the first time a government in an industrialized country has used such a solution to “pre-finance” its disaster expenses. Alabama’s approach was very similar to that of the Caribbean members of the CCRIF since 2007, proving the re/insurance industry has the knowhow to tackle even the big-scale financial challenges of countries like Canada. Most importantly, the success of the Alabama example proves re/insurers have the appetite to take on this public sector risk. Given Canada’s expertise in this emerging field, perhaps the day will come soon when some of the country’s own catastrophe risk, be it on a provincial or federal level, will be efficiently transferred to the re/insurance markets.