Adapting to Climate Change: Assessing the World Bank Group ...

ENDNOTES32 Flood insurance penetration in the USA is only 50% even in flood-prone areas (Dixon et al2006). In Germany one third of households have no flood insurance, and flood insurancecovers only 10% of the value of residential buildings (Thieken, Petrow and others 2006).The vast majority of insurance coverage is in developed countries. For the global nonlifeinsurance industry in 2006, 82% of premiums were collected in Europe and North America,13% in East Asia, 3% in Latin America and Caribbean, 1% in South Asia and 1% in Africa(The World Bank 2010).Flood insurance in developed countries has existed for many decades, but often suffers frominadequate coverage, even when theoretically compulsory, may require expensive publicsubsidies, or may give insufficient incentive to reduce exposure or risks (Michel-Kerjan andKunreuter 2011). For example, for 1 million households in Florida with compulsory floodinsurance in 2000, one third of policies were cancelled by 2002 and nearly two-thirds by2005 (Michel-Kerjan and Kousky 2010).33 Budget contingencies usually cover only 2-5% of government expenditures, anddeveloping country governments often lack reserve funds that could be used to pay fordisaster response (Ghesquiere and Mahul 2010), as these would have high opportunity costsand it can be difficult to preserve reserve funds given political pressures for spending.34 A previous IEG evaluation found that over 1984-2005 roughly $3 billion was reallocatedfrom 217 projects, and this reallocation could seriously disrupt project programs (IEG 2006)and could take months to be approved and years to disburse. For this climat adaptationevaluation, a survey of disaster projects over 2008-11 found no instances of inter-projectreallocations being used in the wake of a climate disaster, as opposed to 12 reallocationsover 1998-200135 Cat DDOs have been signed for Costa Rica and Colombia (2008), Guatemala (2009), Peruand El Salvador (2010), and Panama and the Philippines (2011) with a combined credit lineof over $1 billion. Of these, Costa Rica, Colombia and Guatemala have triggered the option(for a total of $259 million of borrowing).36 In some ways this calculation is conservative, but it is unable to incorporate theopportunity cost incurred by running up against a country borrowing limit constraint.37 The Bank introduced an Immediate Response Mechanism for IDA countries in 2011,whereby projects can be created with a disaster response component, and then funds can berapidly reallocated from other components to the disaster component should a majordisaster occur. The mechanism could help by providing rapid access to funds in the wakeof a disaster, but may disrupt ongoing operations by diverting funds away from othercomponents. No evidence is yet available on the effectiveness of this mechanism.38 Lane and Mahul (2008) examine data from 250 catastrophe bonds, and estimate theaverage price of catastrophe risk insurance at 2.69 times the expected loss. Forlowfrequency risks with return periods of 100 years, the market will often charge over fourtimes the actuarial cost. Even for more frequent risks with 10 year return periods, themultiple is still close to twice the expected loss. These multiples are an average that coverboth climate disaster (mostly cyclone) and earthquake risks, and within the sample cyclonecat bonds charge a multiple that is 10-50% higher than cat bonds for earthquakes.146