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Caribbean Catastrophe Risk Insurance Facility - Workshop in Jamaica on April 28, 2006

Following the devastation caused by natural hazards in the Caribbean in 2004, the CARICOM Heads of State invited the World Bank to establish a Caribbean Catastrophe Risk Insurance Facility (CCRIF).  In January 2006, with Grant funding from the Government of Japan, the World Bank initiated the preparatory studies for the establishment of the CCRIF.  The purpose of the CCRIF is to provide governments with index-based insurance against government losses caused by natural disasters.

 

The Facility will allow CARICOM governments to purchase coverage akin to a business continuity insurance that would provide them with an early cash payment after the occurrence of a major hazard event, thus enabling them to overcome the typical liquidity crunch that follows a disaster.  The use of parametric triggers (i.e. meaning that payment is triggered by the intensity of the event, rather than being a function of the damage incurred) will allow for very rapid payment of claims to the Treasury of the affected countries.

 

To ensure competitive pricing of the insurance product, the Facility will combine the funding capacity of donors and global reinsurance markets.  Donor-funded capital reserves will help retain some of the risk and shield the participating countries from the variability of the reinsurance market.  Economies of scale and the pooling of risks from various states will allow the Facility to access the international reinsurance and capital markets where it is most cost-effective.

 

Technical staff from the Ministries of Finance, Treasury, and Insurance Regulation Departments in the region were introduced to the concept, objectives and workings of the CCRIF during a workshop in Kingston, Jamaica, on April 28, 2006.  Building on the presentations at this first workshop, members of the team set up by the World Bank (including experts from various specialized firms) will visit each country during the summer to tailor the insurance instrument to the specific needs of each country.  One of the key decisions to be taken by participating countries will be the level of coverage they wish to purchase.  This choice will be based on their exposure to risk and also on their capacity to pay.

 

Various development partners are also involved in this initiative.  The Caribbean Development Bank and the Inter-American Development Bank have expressed interest in assisting participating countries either through technical assistance in risk management programs or through loan/credit instruments for the financing of premiums, in particular during the start-up phase of the Facility.  In addition, several bilateral donors have already indicated their interest in contributing to the seed capital of the Facility.  A pledging conference with donors is planned for early September 2006.  CARICOM countries will also be asked to confirm their participation in the Facility by that date to ensure coverage for the 2007 hurricane season.

 

The following annexes provide further detail on the Facility


 Annex 1: What is the Caribbean Catastrophe Risk Insurance Facility (CCRIF)?

 

·         The Caribbean Catastrophe Risk Insurance Facility will provide client governments with immediate liquidity if hit by an adverse natural event (e.g., hurricane).  The Facility will essentially allow Caribbean countries exposed to adverse natural events to pool their risk in order to lower the cost of coverage.  The ultimate cost of coverage will depend on the extend of this risk pooling effect, on economies of scale and on the amount of initial capital provided to start the program.

 

·         The Facility will be created with the assistance from donors which will contribute to its initial capitalization.  This reserve capital is needed to absorb some of the risks while buffering the effects of international reinsurance volatility.  It will also increase the overall resilience of the Facility by having a positive impact on premium costs (i.e. decreasing them).  It should be emphasized that establishing such a reserve pool requires significant initial capital and will be created with donors’ assistance.

 

·         The Facility will contract additional risk cover through (multi-year) reinsurance or through other financial coverage instruments (e.g., catastrophe bonds).   This will allow optimal pricing, thanks to economies of scale, and will provide a more diversified portfolio of risks.  The accumulation of reserves will enable the Facility to smooth the catastrophe reinsurance pricing cycle over time.

 

·         Claims payments will depend on parametric triggers.  Index-based insurance contracts pay claims based on a measurement of intensity of a pre-defined natural event in a pre-defined area over a pre-defined period of time, up to a certain predetermined limit per year.  This type of contract is less expensive than traditional insurance since it does not require the insurer to evaluate losses on an indemnity basis.  The measurement of intensity of the predefined event is generally made by an independent agency. 

 

·         The insured countries will pay an annual premium commensurate to their own specific risk exposure.  Insured countries will buy coverage for risks related to a specific return period.  Countries will choose the attachment and exhaustion points for the coverage (levels of intensity between which coverage will be in effect).

As an example, annual premiums may vary from US$ 500,000 to $2,000,000 for payouts from US$20 million to $80 million

 

·         The Facility will be managed by an Operation Manager with expertise in insurance.  The operational manager will collect premium from insured countries, purchase the necessary reinsurance, pay reinsurance fees from the pool, manage the portfolio, and ensure claims are paid in full and in a timely fashion.

 

·         The Facility could serve as a pilot program that could be extended or replicated to other small states (such as the Pacific islands).  Extending the pool to small states beyond the Caribbean that face similar natural hazards would provide further opportunities for risk diversification, thus lowering the cost of insurance.  This would require additional catastrophic risk assessments for the regions involved.

 

Annex 2: Principal Components of the Caribbean Catastrophe Risk Insurance Facility (CCRIF).

 

·         Catastrophic risk modeling study for the Caribbean.  The most important information needed to set up the scheme is a precise assessment of the probability of occurrence of hazard events (earthquakes and hurricanes) in each of the potential client countries.  Several models already exist for the region that can be further developed to assess the risk exposure and establish specific trigger parameters for each country interested in participating in the Facility, and to estimate the cost of insurance.  A regional model will also be used to estimate the hazard exposure and assess the benefits of pooling the risks of the various participating countries.

 

·         Risk financing strategy of the Facility.   The Facility’s risk financing strategy will be devised with the goal of optimizing the relationship between the premium levels, policy coverage, and creditworthiness of the Facility.  The objective will be to achieve a solvency level that will ensure the survivability of the Facility at an acceptable confidence level.  Using as inputs the risk metrics obtained from the catastrophe risk model, risk financing arrangements will be based on a cost-effective combination of reserves, insurance, and other financial instruments, including contingent debt facilities.

 

·         Institutional and legal structure.  The institutional and legal framework of the Facility must be defined to ensure that it is effectively and efficiently managed to the benefit of its potential clients.  This will include the drafting of the Facility’s Charter, Operational and Investment Guidelines, as well as defining the respective roles of client governments, donors, the reinsurance market and multilateral institutions in the operation, financing, management and governance of the Facility.  The Facility could, for example, take the form of an insurance captive (i.e. an insurance entity owned and controlled by those contributing to it) and be managed by a reinsurance broker or a reinsurance company.

 

·         Reserve Fund.  Donors’ contributions to the Facility’s reserve capital will be critical to ensure its long term financial viability and to reduce its dependency on reinsurance.  These contributions will be supplemented with the interest earnings on this reserve capital and with the share of the insurance premiums paid by the participating countries that is not used to purchase reinsurance.

 

·         Placement of risk capital.  The international reinsurance market will be involved at an early stage in the design process in order to assess the terms on which international reinsurers would be willing to accept the risk ceded by the Facility.  A broad consultation process involving key reinsurance players will help facilitate a consensus on the structure of the regional risk aggregator, so that reinsurers would be willing to commit capacity when the program becomes operational.

 

 

Annex 3: How Parametric Insurance Works (using hurricanes as an example).

 

The parametric hurricane insurance contract pays a pre-determined indemnity if wind speed in a pre-determined location (e.g. the capital of a country) exceeds a pre-determined level (e.g. wind speed corresponding to a category 3 hurricane).   This wind speed is measured by an independent weather agency such as the National Hurricane Center (NHC) of the US National Weather Service.

The NHC utilizes the Saffir-Simpson scale to categorize hurricanes on a scale from 1 to 5.  The following table gives an estimate of the potential property damage and flooding expected along the coast from a hurricane landfall.  Wind speed is the determining factor in the scale, as storm surge and wave values are highly dependent on wind speed.

 

Saffir-Simpson 

Maximum sustained winds (mph)

Expected physical damage

Expected impact on Govt. accounts

Category 1

[74,95]

Not significant

Minimal

Category 2

[96,110]

Superficial

Some repairs to Govt. facilities

Category 3

[111,130]

Structural

Substantial repairs, and  revenue shortfall from damage in tourism and agriculture sectors

Category 4

[131,155]

More extensive structural damage

Major repairs and relief expenses, major revenue shortfalls

Category 5

>155

Widespread roof failures and structural damage

Interruption of Govt. functions and economic activity

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

The payout is triggered when wind speed exceeds a pre-determined level at the location of interest. 

The insurance policy can cover multiple hurricanes, as long as the cumulative loss payments in any one year do not exceed the aggregate liability corresponding to the particular insurance contract.

 

 

Annex 4: Project Team

 

World Bank

Francis Ghesquiere, Project Manager

fghesquiere@worldbank.org, 202 458 1964

 

Jamaican Social

Investment Fund (JSIF)

Faith Graham, Project Manager,

fgraham@jsif.org, 876 926-2825

 

Paulette Cooper

pcooper@jsif.org, 876 968 4545

 

EQECAT

Dennis E. Kuzak, Senior Vice President, EQECAT

dkuzak@absconsulting.com, 510 817 3108

 

CGM Consortium

Simon Young, President, GeoSY Ltd

simon@geosy.com, 202 465 4301

 

Matthew Pragnell, CEO, CGM Group

matthewpragnell@iibre.com, 876 906 0348

 

Jan Vermeiren, Kinetic Analysis Corporation (KAC)

jcvermeiren@mail.methaz.net, 240 821 1202

 

CGM country contacts

 

Jamaica

Joseph Matalon, Chairman and CEO, ICD Group Ltd

joseph@icdgroup.net, 876 922 6670

Barbados

Tommy Smith, Managing Director,

International Insurance Brokers Ltd

thomassmith@iib-jm.com, 876 948 6995

Trinidad & Tobago

Peter Melhado, ICD Group Ltd

peter.melhado@icdgroup.net, 876 922 6670

Grenada, St Kitts & Nevis,

Antigua & Barbuda, Dominica,

Saint Lucia, Belize,

St Vincent & the Grenadines

 

Steven Stichter, KAC

sstichter@mail.methaz.net, 240 821 1202

Cayman Islands, Bermuda

 

 

(regulatory issues)

Saundra Bailey, Director, Reinsurance and Risk

Management, International Insurance Brokers Ltd

(IIB Re)

saundrabailey@iibre.com, 876 906 0348

 

Vikram Dhiman, CFO, ICD Group Ltd

vikramd@icdgroup.net, 876 922 6670

Montserrat,

British Virgin Islands,

Turks & Caicos Islands,

Anguilla

 

Paul Rousseau, VP, Financial Risk, GeoSY Ltd

paul@geosy.com, 876 383 4698

Bahamas, Guyana,

Suriname

Eberle (Bobby) Dawes; Senior Account Administrator,

IIB Re

eberledawes@iibre.com, 876 906 0348

Haiti

Clive Myers, General Manager, IIB Re

clivemyers@iibre.com, 876 906 0348


 

Annex 5: Frequently Asked Questions

 

1.      Would a participating country be fully covered against catastrophic losses?

The insurance offered through the Facility will provide immediate budget support to the government in order to overcome the liquidity gap during the first few months after a disaster. It is not intended to cover all reconstruction costs, and countries will still depend on other sources of financing, including donor assistance.

 

2.      What are the main benefits of joining the Facility?

  • Provides critical budget support immediately after a disaster,
  • Guarantees optimal pricing from re-insurers through risk pooling and economies of scale (i.e. a larger and better diversified portfolio),
  • Low administrative and operational costs by sharing a Facility.

3.      What are the advantages of claims payments based on a parametric index?

Parametric insurance is less expensive than the traditional indemnity-based product, as it does not require a loss adjustment procedure in case of a disaster (i.e. losses do not have to be evaluated).

 

4.      Is there a risk of cross-subsidization of risk among the participating countries?

There is no cross-subsidization.  The parametric index of the insurance product is country-specific and is designed in function of the particular catastrophic risk exposure of each country. This means, for example, that the trigger event for a hurricane-prone country will be set at a higher level than the trigger event for a for a low hurricane risk country.

 

5.      How does the Facility cover its risk?

Risk capital is expected to be provided by donor agencies.   In addition, reinsurance will be purchased to cover risk beyond the capacity of the Facility’s capital.   Facility risk capital is important as it will help smooth the underwriting cycle and ensure optimal reinsurance purchase, leading to lower insurance premiums paid by participating countries.

 

6.      Why should donors contribute to reserves rather than subsidize premiums?

Donors’ financial contributions to the capital of the Facility will help all participating countries through a reduction in the amount of reinsurance that needs to be purchased.   As reserves increase, the pool will become increasingly resilient and less dependent on reinsurance, with a consequent reduction in the cost of premiums.

 

7.      What would happen if one or more states default on the annual risk premiums or decide to exit the pool?

The defaulting state would lose the coverage, and the premium for the other countries would need to be recalculated (a reduced number of states would result in more expensive coverage, but higher reserves can partially mitigate this).  It could also result in costly readjustments of the reinsurance cover provided.  As a result, mechanisms must be devised to ensure the formal commitment of the participating states.

8.      Does the coverage offered by the facility exempt participating countries from buying additional coverage for their public assets?

While the facility could be considered in a broader risk financing strategy, its main purpose is to provide client countries with immediate budget support in the aftermath of a disaster.  It could also be used to cover specific tranches of risk that a country chooses not to insure in a more comprehensive risk financing strategy.  However, a country designing such strategy will have to keep in mind that the coverage provided is parametric, hence not directly related to specific losses.

9.      Does the existence of the facility mean that private entities and households do not need to buy insurance for their assets?

No.  The Facility will only provide a partial coverage to governments in order to help authorities fund urgent expenses in the aftermath of a catastrophe.  The scope of coverage should not be perceived as replacing private insurance.  In fact, countries would have an interest in promoting the use of private insurance so as to reduce their secondary obligations in case of a disaster.

 

10.  How does the Facility support the development of emerging domestic insurance markets?

In the short term, the Facility would be only available to sovereign governments.  After a pilot period, one could consider opening it up to private entities, such as domestic insurers who could use it to buy catastrophe reinsurance at a competitive price.  At the same time, the development of risk models under this initiative should provide better instruments and lower start-up costs for insurance initiatives in the region.