Insurance as risk management tool

Disaster risks and losses are of great concern for society, since they have increased over the last years. Such events are expected to further increase as a result of several factors such as projected demographic development, land use change, expansion of residential and economic activities in disaster-prone areas and projected climate change. There is evidence that climate change has increased the frequency and severity of certain extreme weather- and climate-related events, such as droughts, heat waves and heavy precipitation events in several European regions, and these trends are projected to continue, without climate change mitigation and adaptation (EEA Report 15/2017). Therefore the implementation of compressive risk management mechanism (such as insurances) gains more and more importance.

Insurance transfers risk from an insured person, object or organisation to an insurer. Compensation depends on the assessment of losses caused by the specified hazard events, e.g. crop loss in agriculture, losses in houses from flooding, forest losses due to storm or forest fires. For extreme weather, this is a valuable tool because the financial damage does not turn into long term economic damage if a house or a business can be rebuilt or compensated for. Before an extreme weather event can be insured, an insurer should be able to identify the risk and to quantify it. Of course, an insurer should be able to bear the costs if the extreme event actually occurs. One last important element of insurability is that it cannot be known to anyone how, where and where exactly the extreme event will take place; it needs to be random.

The European Commission’s Green Paper on the insurance of natural and man-made disasters was published in 2013 as part of the Adaptation Strategy package. It aims to encourage improvement in the ways insurers help to manage climate change risks, to increase the market access of natural disaster insurance and to release the full potential of insurance pricing and other financial products.

A European Commission report on insurance of weather and climate-related disaster risk analyses different insurance schemes established in several Member States. Based on their assessment the insurance markets (across countries and sectors) can be divided into three broad groups:

• Voluntary insurance market; a potential policyholder decides if he will buy insurance coverage and the insurer decides if he will provide the coverage.
• Semi-voluntary insurance market; in principle it is similar to the voluntary one; both the insurer and the policyholder can choose whether they will engage in the extreme weather insurance market or not. However, in practice this freedom can be curtailed in the sense that there is an unofficial compulsion from, for example, mortgage providers or an implicit contract between stakeholders that require the individual to take part in the insurance market.
• Mandatory markets; an insurer or a policyholder has a legal compulsion to take part in the market. For example, an insurer may be legally unable to refuse coverage against extreme weather events, while a policyholder may be compelled to buy fire insurance which has extreme weather insurance included.

Some countries (e.g. France, Switzerland) have state or quasi-state monopoly insurance while other countries (e.g. Germany, Italy, United Kingdom) have commercially structured “free market solutions“, which are systematically coupled with state-funded ad-hoc relief. Other countries (e.g. Austria, Denmark) have public disaster funds financed by tax-payers' money and still others have various mixed solutions of private insurance providers supplemented by public disaster funds (e.g. Belgium, the Netherlands, Norway) (Schwarze et al., 2009). Spain has a public-private partnership scheme where the public entity (Consorcio de Compensación de Seguros - CSS) covers extraordinary climate risks (and others) and collects its premiums through a proportional surcharge included in the invoices of the private companies (EEA, 2017).