“Stopped” …or not?

The deadline facing the Canadian government to introduce a form of reinsurance cover for terrorism risks has come and gone — without any response from the government. Primary insurers acting through the Insurance Bureau of Canada (IBC) have been engaged in intensive discussions with the federal Finance Ministry from mid-November through to the beginning of the December holiday break, stressing the urgency for some form of government mechanism to be brought into place before January 1 of this year when most of the reinsurance treaties are renewed. Until recently, reinsurers had been adamant that all terrorism-related risks would be excluded from 2002 covers.

Due to the failure of the federal government to step in and close this “gap”, most insurers began issuing terrorism exclusions themselves just before the year’s end, at least in areas where they are not statutorily required to provide cover. Some companies have also looked at the prospect of market-wide terrorism exclusions as a strategic opportunity to provide cover on a select basis (see Insight of this issue for further details).

While both insurers and reinsurers agree that a government financial back-stop for certain types of terrorism risks is the only workable solution to providing adequate market coverage, the industry does seem to be working out its own “interim arrangement” to ensure against short-term disruption. As such, the “calamity” that many were predicting would occur if the government did not act before the January 1 deadline has not happened. Discussions with the government will continue into the new year, confirms Stan Griffin, vice president of regional operations at the IBC. He also notes that the Canadian government is unlikely to act until a reinsurance solution is approved in the U.S. “…during discussions with Finance since November 16, it was evident that the Canadian government was monitoring the U.S. situation closely, and did not want to move in advance of, or in a sufficiently different manner than the U.S. [government].”

Meanwhile, insurers were reporting a last minute change in the approach of some reinsurers, who now seem willing to provide terrorism cover with regard to statutory mandated risks. For instance, despite the implementation of terrorism exclusions at the primary company level, insurers still face significant exposures through “fire-following” coverages which are mandated. This had been a critical exposure issue with regard to the discussions with the government. Peter Borst, chief agent for Employers Reinsurance Corp. of Canada, and chairman of the Reinsurance Research Council (RRC), confirms that reinsurers are now providing some terrorism coverage on personal lines and small commercial risks, “usually with incurrence limits”.

At this point, it would seem that terrorism exclusions at the primary level will hold, regardless of whether the government eventually does come forward with a reinsurance plan, says Griffin. “It will be interesting to see if insurers will be prepared to unscramble the egg [if a government plan is brought into place].”

Furthermore, insurers believe that a broad reinsurance solution put on the table by the government will be too costly, while the terms of coverage with regard to deductibles would be ineffective. As such, the IBC has focused its latest government negotiation effort toward creating an interim plan for “target risks”, Griffin notes. This would ideally provide reinsurance for statutory property covers where Canadian businesses have U.S. exposures (accounting for less than 15% of total insured values) — a Canadian written policy including fire-following coverage is applicable in non-Canadian jurisdictions even when covers written under that jurisdiction do not. The other area of high exposure is high value target risks in Canada, namely downtown buildings, etc. The IBC proposal suggests that such risks should exceed a value of $500 million (although some risks of lesser value but higher on the risk scale could be included) but do not exceed a maximum value of $2 billion per any one risk.

It is interesting to note that, as it became glaringly obvious the government would fail to meet the reinsurance renewal deadline, the insurance industry rallied with its own last minute solution. However, while the government may think that the “problem will solve itself”, insurers and reinsurers are quick to warn that some form of federal involvement is needed with regard to terrorism exposures in order to create financial stability and market equilibrium. And the exclusions issued will stick, insurers warn, which leaves the government with a much bigger problem of dealing with uninsured commerce, the impact that this might have on lending practices, and the economy overall.