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Can you insure against climate change? | The Economist

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Published on Sep 28, 2019

Extreme weather events are becoming more frequent due to climate change. As the economic costs of disasters rise, can the insurance industry cope with the losses? Read more https://econ.st/2ndFMZ3

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Extreme weather events like these are becoming more frequent. It’s not just causing untold human suffering but also ever-growing economic costs. As the losses pile up, will insurers be able to cope with the damage?

In 2017 Hurricane Harvey, mudslides in Sierra Leone, and monsoon floods in South Asia all contributed to the largest year on record for insurance losses - with payouts totalling $144bn.

In America for example between 1980 and 2015 you had about five events a year that each cost more than $1bn in damage. Since 2016 it’s been an average of 15 events like this a year.

This leaves the insurance industry uniquely exposed and having to pay out a lot of money all at once. Insurers aren’t helped by the obsolete information they rely on either. They find it hard to predict when this happens because their models are not really taking into account climate change. They look at maybe 30, 40 years of data and they assume that the environment within these data, this period, is pretty stable. So these models look at a world that doesn’t really exist anymore.

And it’s no surprise what’s now happening to the price of insurance. If you look at the last quarter premiums on property insurance in America rose by 10%. In Australia and New Zealand they rose by about 18%. And at some point premiums may simply become unaffordable especially so as disasters regularly happen in places where
people can least afford to pay high premiums.

Half of last year’s losses from natural disasters were uninsured. And in America 85% of homeowners have no flood insurance even though half of the population lives near water. Increasing premiums might just lead to even more people being left out in the cold. But there are some more novel solutions.

So, for example, Lloyd’s of London has a policy that sends €1,000 per hectare to Spanish olive farmers as soon as the temperatures reach 36 degrees. So these are very simple solutions to put in place, very easy to implement and also quite cheap in fact, which is the main advantage. Rather than compensate the farmers after their losses are reported insurance companies monitor a specific parameter such as rainfall or temperature.

When this passes an agreed threshold they pay out a lump sum. Known as parametric insurance, this approach can help the insurance companies cut costs and in turn bring down premiums for the consumer. But as the climate crisis worsens the same challenges are likely to re-emerge. We cannot expect insurers to save us from climate change because the world fundamentally cannot be insured against climate change. However many companies already offer discounts to homeowners who for example install metallic shutters on the windows or flood-proof doors.

But they could make a more drastic step. So a city on the coast wants to build flood defences. This will require a lot of money but perhaps insurers maybe in cooperation with banks could offer some financing for them to do that. They can help us design solutions or take measures that will limit losses. And this is really the crucial role they can play.

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