Canadian Underwriter

Change in exposure driving widening gap between insured, economic losses following disaster events

September 14, 2016   by Angela Stelmakowich

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CALGARY – A dramatic loss scenario around disaster events is developing globally, contributing to a widening gap between insured and economic losses, Alex Kaplan, senior vice president of global partnerships for Swiss Re, suggested earlier this week during the RIMS Canada Conference in Calgary.

“If you tie urbanization together with globalization and the onslaught of potential for climate change, it creates a very dramatic loss scenario,” Kaplan told those assembled for the RIMS Canada Conference session, A Path to Resilience – Lessons Learned from the Southern Alberta Floods.

Although events have increased in both severity and frequency, his view is that is only part of the story. “Really, what’s driving this is the change in the exposure,” Kaplan reported.

“It’s the massive accumulation of assets in the most disaster-prone areas that are leading to these losses. Why is that? Well, we love to live where the topography is interesting, where the river meets the sea, where the ground shoots up out of the earth in a mountain.”

It may not be a surprise that disaster costs are going up, but “the alarming trend is the divergence between the insured portion and the total economic losses over time,” Kaplan told attendees.

Source: Swiss Re Economic Research & Consulting and Cat Perils

“The overwhelming majority of losses on a global scale falls on the back of the rest of society, not on the insurance market. So if you add up the cost of disasters globally, only about 30% insured,” he noted.

Higher costs and a widening gap is something also playing out in Canada. “Obviously, the last five years has been a rather dramatic five years in a row, with insurance losses from events in excess of $1 billion and that continues to climb.”

Citing the federal Disaster Financial Assistance Arrangements (DFAA) – established in 1970 – he reported that 96% of all capital deployed through the program has been in the last 20 years.

“Anyone would know that’s a completely unsustainable path,” Kaplan told attendees.

Pointing out there is now an average of 20 to 25 large or medium-scale events in Canada every year, “again, a lot of it has to do with the concentration of exposure,” he suggested.

“If you superimpose that with urban growth (75% of the world’s population is forecast to live in cities by 2050), that just tells the story in a slightly more tangible way. It matches the accumulation of wealth and assets in these areas.”

Alberta is clearly no stranger go costly natural disasters. Alberta witnessed the flooding in 2013 and the Fort McMurray wildfire just three years later, the former overtaken by the latter as the most costly natural disaster in the country’s history.

“It was not just about the houses and the buildings and the property damage. The economic ripple effect of these disasters was astronomically larger than the insurance payments,” Kaplan suggested to attendees.

“When we think about the total economic impact of an event, we have to think beyond the physically tangible,” he said, such as the impact on the energy, construction, business services and retail industries, as well as the ability of the province – or any province – to operate.

“Alberta was in an incredibly strong fiscal position for the last several decades and the confluence of events like this, with impacts such as a decline in oil prices, have developed a very challenging scenario,” Kaplan said.

If the 2013 floods were to happen today, where oil is trading at less than half its level in 2013, “it’s a very different fiscal situation when you have a convergence of two completely uncorrelated risks colliding on a single balance sheet.”

Mark Day, executive director of risk management and insurance at Alberta Treasury Board and Finance, would likely agree.

“We have a new fiscal reality that changes our risk retention, our risk appetite,” Day, recipient of the 2016 Donald M. Stuart Award, said during the session.

“The fiscal reality is sort of the new normal here in Alberta,” he added.

With regard to the DFAA, it is fairly effective on major disasters with regard to direct damages. “We get back 90% of our losses once the disaster exceeds $63 million. So, it’s very good, but it’s subject to change,” he pointed out.

With regard to Fort McMurray, Day reported that the province has received $300 million so far, calling it “unprecedented how quickly the new government in Ottawa and the provincial government were able to come to terms.

Despite ongoing challenges and the new fiscal reality, “a lot of lessons have been learned from recent disasters,” Day emphasized.

In each of the cases – the Slave Lake wildfire in 2011, the southern Alberta flooding in 2013 and the Fort McMurray wildfire in 2016 – a government task force was established to lead the recovery. The idea is response, stabilization and re-entry, short-term recovery and then long-term recovery.

Day suggested it is critical to involve all pillars of recovery: people, economy, environment, mitigation and reconstruction. “The pillars were used to help guide decision-making. The pillars were also used to help keep track of all the budgets, all of the financing that went into it,” he noted.

“One thing that is common is these mass evacuation events are extremely expensive and extremely complex,” Day pointed out. “Identifying and doing needs analysis in all of this was a critical part to being able to respond.”

As it stands, “mitigation is a key driver for the province. Most costs are not covered by the DFAA and can be the most significant spend,” he noted.

For example, “mitigation in Slave Lake took the form of additional supports for FireSmart initiatives and that kind of thing,” Day said.

In the wake of such disasters, among other initiatives, Alberta has moved forward with many local flood mitigation efforts and plans for an approximately $300 million off-stream reservoir, environmental assessments for which are under way.

“When completed, combined with local mitigation measures, this reservoir will provide flood protection against the 2013 volumes,” he told attendees.

Day noted the province is exploring the possibility of alternative funding arrangement (cat bonds and insurance-linked securities options were rejected as “probably too expensive and probably too complicated” – but it has some needs that need to be met.

Any such arrangement must be of adequate capacity (at least $500 million), simple to trigger, comprehensive in scope (direct, indirect, mitigation), paid quickly and cost-effective.

“The risk management philosophy of the province is to self-insure as much as possible and take the long view,” he said.

More coverage from the RIMS Canada Conference

ORIMS honours Mark Day with the 2016 Donald M. Stuart Award at RIMS Canada Conference

Resiliency plans increasingly important, plans will never be perfect

Resilience should be a goal of all organizations

Commercial insurers in Canada face challenges, opportunities: Kadow

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