IPCC_Managing Risks of Extreme Events.pdf - Climate Access

Chapter 7Managing the Risks: International Level and Integration across Scalesorganizations, supports financial inclusion policies including mobilebanking and special savings accounts earmarked for disaster recoverythat will greatly reduce transaction costs. High-tech proposals for assuringsecurity have included biometric identification cards and retina scannersas forms of identification (DFID, 2005; Pickens et al., 2009).7.4.4.2.2. Post-disaster creditOne of the most important post-disaster financing mechanisms, creditprovides governments and individuals with resources after a disaster, yetwith an obligation to repay at a later time. Governments and individualsof highly vulnerable countries, however, can have difficulties borrowingfrom commercial lenders in the post-disaster context. Since the early1980s, the World Bank has thus initiated over 500 loans for recovery andreconstruction with a total disbursement of more than US$ 40 billion(World Bank, 2006), and the Asian Development Bank also reports largeloans for this purpose (Arriens and Benson, 1999). With the growingimportance of pre-disaster planning, a recent innovation on the part ofinternational organizations is to make pre-disaster contingent loanarrangements – for example, the World Bank’s catastrophe deferreddrawdown option, which disburses quickly after the governmentdeclares an emergency (World Bank, 2008).For micro-finance institutions (MFIs), post-disaster lending has associatedrisks given increased demand that tempts relaxed loan conditions oreven debt pardoning. This risk is particularly acute in vulnerable regions.Recognizing the need for a risk transfer instrument to help MFIs remainsolvent in the post-disaster period, the Swiss State Secretariat forEconomic Affairs (SECO) and the IADB, as well as private investors,created the Emergency Liquidity Facility (ELF) (UNFCCC, 2008). Locatedin Costa Rica, ELF provides needed and immediate post-disaster liquidityat low rates to MFIs across the region.7.4.4.2.3. Insurance and reinsuranceInsurance is an instrument for distributing disaster losses among a poolof at-risk households, farms, businesses, and/or governments, and is themost recognized form of international risk transfer. The insured share ofproperty losses from extreme weather events has risen from a negligiblelevel in the 1950s to approximately 20% of the total in 2007 (Mills,2007).Insurance and reinsurance markets attract capital from internationalinvestors, making insurance an instrument for transferring disaster risksover the globe. The market is highly international in character, yetuneven in its cover. In the period 2000 to 2005, for example, US insurerspurchased reinsurance annually from more than 2,000 different non-USreinsurers (Cummins and Mahul, 2009, p. 115). From 1980 through 2003,insurance covered 4% of total losses from climate-related disasters(estimated at about US$ 1 trillion) in developing countries compared to40% in high-income countries (Munich Re, 2003).The international community is playing an active role in enablinginsurance in developing countries, particularly by supporting micro- andsovereign (macro) insurance initiatives. The following four examplesillustrate this role:• The World Bank and World Food Programme provided essentialtechnical assistance and support for establishing the Malawi pilotmicro-insurance program (see discussion in Section 5.5.2), whichprovides index-based drought insurance to smallholder farmers(Hess and Syroka, 2005; Suarez et al., 2007).• The Mongolian government and World Bank support theMongolian Index-Based Livestock Insurance Program (see Section5.5.2) by absorbing the losses from very infrequent extreme events(over 30% animal mortality) and providing a contingent debtarrangement to back this commitment, respectively (Skees andEnkh-Amgalan, 2002; Skees et al., 2008).• The World Food Programme successfully obtained an insurancecontract through a Paris-based reinsurer to provide insurance tothe Ethiopian government, which assures capital for relief effortsin the case of extreme drought (Hess, 2007).• The governments of Bermuda, Canada, France, and the UnitedKingdom, as well as the Caribbean Development Bank and theWorld Bank, have recently pledged substantial contributions toprovide start-up capital for the Caribbean Catastrophe RiskInsurance Facility (discussed in Section 7.4.4.2.5) (Cummins andMahul, 2009).These early initiatives, especially micro-insurance schemes, are showingpromise in reaching the most vulnerable, but also demonstrate significantchallenges to scaling up current operations. Lack of data, regulation,trust, and knowledge about insurance, as well as high transaction costs,are some of the barriers (Hellmuth et al., 2009).As discussed in Case Study 9.2.13, insurance and other risk transferinstruments can promote DRR and CCA in multiple ways by providingthe means to finance recovery, thus reducing long-term losses; addingto knowledge about risks; creating incentives (and imperatives) forrisk reduction; and providing the safety net necessary for farms andbusinesses to take on cost-effective, yet risky, investments that reducetheir vulnerability to climate change (Linnerooth-Bayer et al., 2009;Warner et al., 2009b).7.4.4.2.4. Alternative insurance instrumentsAlternative insurance-like instruments, sometimes referred to as risklinkedsecurities, are financing devices that enable risk to be sold ininternational capital markets. Given the enormity of these markets, thereis a large potential for alternative or non-traditional risk financing,including catastrophic risk (CAT) bonds (explained below, and in Section6.3.3 and Case Study 9.2.13), industry loss warranties, sidecars (acompany purchases a portion or all of an insurance policy to share in theprofits and risks), and catastrophic equity puts, all of which are playingan increasingly important role in providing risk finance for large-loss419