Firming quake insurance
Re: Tremors of a moral hazard, Neil Mohindra, Sept. 13
Neil Mohindra’s opinion piece highlights the existential threat that system- wide risk from severe earthquakes poses to the insurance industry and correctly points out the inherent moral hazard risks in the financial industry.
The Insurance Bureau of Canada ( IBC) is encouraged by the Department of Finance calling attention to the need for a stable and resilient financial sector, making the protection of Canadian consumers a priority.
The insurance industry, along with federal regulators, has addressed systemic risk, in part, by raising industry capitalization well above i nternational standards. They will be prepared for a one- in- 500- year event by 2022, establishing the ability to withstand the majority of earthquakes. Beyond a certain threshold, insurers simply won’t have capital to survive. As insurers fail, distressed surviving insurers are required to meet the obligations of the failed insurers. Financial contagion sets in as these obligations cause large-scale second- round institutional failures.
Public- private partnerships for natural catastrophes are effective risk- management solutions around the world. The insurance industry seeks emergency access to capital in the form of credit to deal with shortterm liquidity issues only in the most severe earthquake scenarios. Very different from a “backstop,” an emergency lending agreement is repayable, and it does not prevent insurers from faili ng. Emergency l ending stops contagion in its tracks as the unintended chain of second-round failures would be avoided.
What would happen if there was no public- private arrangement? Where emergency lending is not in place and financial contagion is triggered? With many failing financial institutions, the financial burden of disaster relief and recovery would fall solely on the government.
Most i mportantly, a public- private partnership dealing with systemic risk ensures that Canadians can count on their insurer despite catastrophic events.
Don Forgeron, president and CEO, Insurance Bureau of Canada