A Review of Catastrophic Risks for Life Insurers

AuthorAlex Huynh,Aaron Bruhn,Bridget Browne
Published date01 September 2013
Date01 September 2013
DOIhttp://doi.org/10.1111/rmir.12011
Risk Management and Insurance Review
C
Risk Management and Insurance Review, 2013, Vol.16, No. 2, 233-266
DOI: 10.1111/rmir.12011
AREVIEW OF CATASTROPHIC RISKS FOR LIFE INSURERS
Alex Huynh
Aaron Bruhn
Bridget Browne
ABSTRACT
Catastrophic mortality events are characterized by a sudden and concentrated
increase in mortality and as such present a major risk to life insurers. Such
events include pandemics, war, natural disasters, terrorist attacks, and indus-
trial, transport, and other accidents. Of these, pandemics arising from influenza
are considered the most significant threat to the life insurance industry due to
their capacity to cause a major increase in claims. We review the features and
mortality implications of an influenza pandemic for life insurers, and describe
a range of other risks that are likely to emerge as well.
INTRODUCTION
Life insurers and reinsurers are exposed to the risk of future mortality uncertainty.
This risk may arise from trends such as improvements in mortality that continue to be
greater than expected, or the risk may be from a shock such as a catastrophic mortality
event, which causes an unexpected increase in mortality.The latter in particular poses a
significant threat to the life insurance industry due to the potential for a substantial rise
in claims over a short period of time. As a result, severe adverse financial consequences
can potentially arise, such as breaches in regulatory solvency and capital requirements
(Cox and Hu, 2004).
This article reviews the main sources of potential catastrophicrisks facing life insurers, in
particular the mortality risk posed by influenza pandemics. Although there are a range
of catastrophic mortality events that may impact the life insurance industry, influenza
pandemics are considered the most serious threat because they have the potential to
cause large numbers of deaths in multiple regions around the world and their future
Alex Huynh is a consultant at Booz and Company, Sydney. Aaron Bruhn is Lecturer in Ac-
tuarial Studies, School of Finance and Applied Statistics, ANU College of Business and Eco-
nomics, Australian National University, Canberra, ACT 0200, Australia, phone: +61 2 6125
4904; e-mail: aaron.bruhn@anu.edu.au. Bridget Browne is a Senior Lecturer in Actuarial Stud-
ies, School of Finance and Applied Statistics, ANU College of Business and Economics, Aus-
tralian National University, Canberra, ACT 0200, Australia, phone: +61 2 6125 7373; e-mail:
bridget.browne@anu.edu.au. This article was subject to double-blind peer review.
233
234 RISK MANAGEMENT AND INSURANCE REVIEW
occurrence is thought to be inevitable (Osterholm, 2005; Standard & Poor’s, 2011). Poten-
tial associated nonmortality risks are discussed in order to place the impact of increased
mortality within a context of wider risks to the business. Risk mitigation strategies, both
traditional and more recent, are also discussed.
CATASTROPHIC EVENTS
A catastrophic event can be defined as “any natural or man-made incident, including
terrorism, which results in extraordinary levels of mass casualties, damage, or disrup-
tion severely affecting the population, infrastructure, environment, economy, national
morale, and/or government functions.”1More general definitions include “a sudden,
extensive, or notable disaster or misfortune,” a “final decisive event, usually causing
a disastrous end,” “any sudden and violent change in the Earth’s surface caused by
flooding, earthquake, or some other rapid process,”2or “an event causing great and
usually sudden damage or suffering; a disaster.”3In the context of life insurance and
particularly for the purposes of reinsurance, a catastrophic event has a specific meaning
or definition, similar to “one event or occurrence claiming more than an agreed number
(a common figure is 5) of lives insured within a given period, usually 24–72 hours”
(IAAust, 2009). However, for the purposes of this article, we are referring to an event
that could cause widespread loss of life, potentially leading to substantial risks of
insolvency for a life insurer.
The events that are discussed in this article clearly represent a loss of life and property
that are tragic and disastrous by any reasonable definition. In terms of insured loss in
the life insurance context, however, many of these events are not likely to represent
unmanageable financial losses, for reasons specific to each type of event. However, we
note that of course all such events are tragic, and any other implication when discussing
them in the context of life insurance risk is not intended to be insensitive.
War
Perhaps the one event that gives rise to the most obvious loss of life on a large scale
is war, from which millions of civilians and military personnel have died throughout
history. One set of estimates for overall fatalities arising from the deadliest wars of the
20th century is provided in Table 1.
The estimation of fatalities attributed to war is exceptionally difficult. This is because of
the wide range of causes of deaths, unreliable and sparse data, and the varying views
taken by historians. The estimates above are intended only to indicate the magnitude of
these events, and estimates vary significantly between sources.4
Although it is clear that wars have the potential to cause millions of deaths, it is common
for life insurers to include a war exclusion clause in the policy contract, which exempts
them from paying out claims if the policyholder died as a result of war-related events
(Simon, 1981).
1http://www.definitions.net/definition/catastrophicevent, accessed June 15, 2012.
2http://www.thefreedictionary.com/catastrophe, accessed June 15, 2012.
3http://oxforddictionaries.com/definition/english/catastrophe, accessed July 27, 2012.
4Indeed, alternative estimates to those above include 21.5 million fatalities for World War I, and
50 million for World War II (Urlanis, 1971; Keegan, 1989; Brzezinski, 1993).
CATASTROPHIC RISKS FOR LIFE INSURERS 235
TABLE 1
Five Deadliest Wars Since 1900
Years Name of War Estimated Number of Deaths
1939–1945 World War II 66,000,000
1914–1918 World War I 15,000,000
1917–1922 Russian Civil War 9,000,000
1928–1937 1st Chinese Civil War 5,000,000
1960–1975 2nd Indo-China War 4,200,000
Source: White (2011).
Natural Disasters
A natural disaster is an event caused by nature, the scale of which results in signifi-
cant destruction and loss of human lives (Centre for Research on the Epidemiology of
Disasters, 2011). These include droughts, earthquakes, tsunamis, extreme temperatures,
floods, landslides, cyclones, volcanic activity, and wildfires. Table 2 describes the 20
natural disasters with the highest death tolls since 1900.
It is clear that the deadliest types of natural disasters have been floods, earthquakes, and
droughts. These have primarily occurred in developing countries where populations
are large but generally uninsured, and hence the impact on the life insurance industry
could be considered as limited in a historical context.
Although numerous natural disasters have affected developed or industrialized coun-
tries, they have generally caused tremendous amounts of property damage and a rela-
tively lower number of deaths in comparison to the natural disasters listed in Table 2.
This is due to relatively stricter building codes, modern medical facilities, good emer-
gency response, and early warning systems. For example, Hurricane Katrina in 2005
caused the highest general insurance loss in history of U.S. $73 billion (2010 dollars)
and although the loss of human life was tragic at 1,836 people, it was not on the same
scale as the natural disasters mentioned in Table 2 (Lucia et al., 2011). Other recent nat-
ural disasters such as the New Zealand earthquakes, Chinese floods, Australian floods
and tropical storms, and Chilean volcanic activity have not resulted in numbers of
deaths approaching those in the table, although the Japanese earthquakes of 2011 caused
approximately 28,000 deaths (Centre for Research on the Epidemiology of Disasters,
2011).
Industrial, Transport, and Other Accidents
Industrial accidents include spills or leaks of toxic chemicals, and various explosions.
Transport accidents include air, boat, rail, and road transport. Other accidents include
fires and collapses of key structures. Table 3 describes the 10 industrial and transport
accidents with the highest death tolls since 1900.
It is also worth noting that some industrial accidents such as nuclear accidents tend
to increase mortality over an extended period of time and hence have not featured
in the list in Table 3. For example, the Chernobyl disaster in 1986, the worst nuclear

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