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Esko Kivisaari |
The Covid-19 pandemic has caused widespread human suffering and huge economic damage. We are still not at the end of this affliction, and there is uncertainty as to when a vaccine will be widely available, and whether it will be in time to prevent a second wave.
There are also questions being asked of the insurance industry in relation to where insurance was when it was needed. Lockdowns in different countries have damaged the business of many undertakings. Business owners are in many cases disappointed that their business interruption cover has not lived up to their expectations. The position of insurers is generally that compensation is not available as the contract does not cover events like this. Business interruption policies generally cover business interruption caused by physical damage, but not so-called non-damage business interruption cover which could have provided compensation in the case of recent lockdowns. There will certainly be court cases where insurers will be challenged on the wordings in contracts or on whether they or their distributors gave a misleading impression leading to the belief in the minds of customers that the current situation would be covered.
There is not much that can be done to change the insurance reality for the current crisis or even for its possible second wave. But it is important to be prepared for similar future incidents. We should also note that it is not enough to prepare for the previous war; future crises will arrive in different forms.
A common theme of recent crises (I am referring in addition to Covid-19 to the financial meltdown of 2008) is that they reveal the huge interconnectedness of the world in which we live today. Crises, no matter what the origin, can freeze the world-wide economy. In addition to the two severe crises which we have now encountered over the last decade or so, other circumstances such as a disturbance in space weather, a huge cyber crisis or lockdown due to a volcano/nuclear explosion, have the potential to have similar impact. Ideally, we need insurance type coverage to protect against such risks which are systemic in nature.
The problem with insurance cover such as non-damage business cover in such cases is that there is an immediate global hit. This risk is not geographically diversifiable, which means there would be little or no appetite from even the biggest global reinsurers to take on such risks. Only an intergalactic reinsurer would be able to offer cover on traditional actuarial principles.
Without such a reinsurer we need to look at other solutions. One approach could be to look at the capital markets where volume is much larger than the global insurance market. This could make it possible to securitise the systemic risk. In principle there could be appetite in the capital markets for such securitised insurance risk, as the risk, at least ex ante, is not correlated with other market risks (i.e. other market risks do not trigger this systemic risk although the systemic risk is likely to lead to other market risks materialising).
Another approach could be a form of public private partnership. In this case insurers (or other applicable institutions) could include the required coverage in their policies, and receive reinsurance cover from public finances, either on a national or a European level.
There is a multitude of challenges associated with such an approach. The acid test of such a solution is whether it really deals effectively with the material economic hardship caused to society by the type of event discussed. Securing the involvement of public finances will require governments to be convinced that such a solution can help societies in risk reduction and is an efficient and effective way for society to cope with the risks.
The current Covid-19 situation also provides challenges for the actuarial profession. Historically, actuaries have been able to make risk insurable through pooling. In the current situation, different solutions are needed and we need to think differently in order to help our societies to manage the inevitable future crises as they emerge.
This blog is written in a personal capacity.
June 2020
