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Climate change, insurability of large-scale disasters, and the emerging liability challenge.
This Article focuses on the interaction between uncertainty and insurability in the context of some of the risks associated with climate change. It discusses the evolution of insured losses due to weather-related disasters over the past decade and the key drivers of the sharp increases in both economic and insured catastrophe losses over the past twenty years. In particular, the authors examine the impact of development in hazard-prone areas and of global warming on the potential for catastrophic losses in the future. In this context, the authors discuss the implications for insurance risk capital and the capacity of the insurance industry to handle large-scale events. A key question that needs to be addressed is which factors determine the insurability of a risk and the extent of coverage offered by the private sector to provide protection against extreme events when there is significant uncertainty surrounding the probability and consequences of a catastrophic loss. The authors further discuss the concepts of insurability by focusing on coverage for natural hazards, such as earthquakes, hurricanes, and floods. The Article also focuses on the liability issues associated with global climate change and possible implications for insurers, including issuers of Directors' and Officers' policies, given the difficulty in identifying potential defendants, tracing harm to their actions, and apportioning damages among them. The Article concludes by suggesting ways that insurers can help mitigate future damages from global climate change by providing premium reductions and rate credits to companies investing in risk-reducing measures.
INTRODUCTION The World Economic Forum recently stated that climate change is one of the most important global risks that key decision makers will face in the years to come. (1) In the same vein, a report commissioned by the Chancellor of the Exchequer in the United Kingdom echoes this perspective and notes that "climate change presents very serious global risks, and it demands an urgent global response." (2) The Stern Review notes that global climate change "presents a unique challenge for economics" due to the long time horizons involved, the uncertainty associated with the risk, and the unprecedented scale on which one needs to envision such a problem. (3) These points reinforce the common sentiment that we need to address the role of different industrial sectors in reducing the impacts of global warming. This Article focuses on the role that the insurance sector can play in this regard and the challenges insurers and reinsurers face in dealing with the impact of climate change on their risk management strategies. Indeed, the direct and indirect impact of firms' activities to limit future emissions of greenhouse gases (GHGs) and to adapt in other ways to climate change is likely to have major implications on the insurance sector. In a recent interview, John Coomber, former CEO of the Swiss Reinsurance Co. (Swiss Re), a world reinsurance leader, stated that climate change "is the number one risk in the world ahead of terrorism, demographic change and other global risk scenarios...." (4) In May 2006, American International Group (AIG), the largest insurer in the United States, issued a statement that "[c]limate change is increasingly recognized as an ongoing, significant global environmental problem with potential risks to the global economy and ecology, and to human health and wellbeing." (5) Extreme-weather-related events (such as hurricanes, floods, and ice storms) will impact the premiums and available coverage for property damage and business interruption losses. They may affect health and life insurance as well. Because insurance policies are usually renewed annually, insurers are faced with the problem of how to set premiums and what coverage to offer in the coming year. This can be a difficult challenge, given the inability to distinguish between random weather patterns and systematic changes in climate in the short run. Insurers have also begun paying attention to the liability issues associated with climate change because shareholders could accuse some companies of failing to prepare for climate-related financial exposures. To the extent that shareholders take such cases to court, insurers have to defend those firms who have purchased Directors' and Officers' (D&O) liability coverage from them. The Article is organized as follows. Part I discusses the evolution of catastrophic losses over the past twenty years. In particular, we examine the impact of climate change, coupled with the development of hazard-prone areas, on the potential for large losses to insurers in the near future. In this context we discuss the capacity of the insurance industry to handle large-scale disasters without assistance from the public sector. Part II addresses the issue of attribution by examining the main drivers of this new dimension of catastrophic losses. While climate change may ...See the full content of this document
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