Climate change risks, such as extreme weather-related disasters as well as slow onset changes such as rising sea levels, threaten sustainable development and resilience, impair socio-economic development, and reinforce cycles of poverty across the globe. The average annual weather-related disaster losses in the last five to ten years in “low and “lower middle” income countries have reached US$1.3 billion and US$6.8 billion respectively.
Climate impacts undermine resilience and the capacity to recover and absorb losses from these events, especially those of poorer countries and their citizens, by reducing their agricultural productivity, weakening water and food security, increasing the incidence of diseases, and threatening the existing infrastructure, economic productivity and value chains (Munich Re, 2013; & Collier et.al., 2008).
The Overseas Development Institute (ODI) produced a working paper on disaster risk insurance and the triple dividend resilience. The triple dividend framework helps to shed light on how insurance mechanisms are sources of support to direct and indirect resilience benefits at different scales. The paper posits that the first dividend is where insurance can transfer and compensate for losses of various kinds by way of payouts after a disaster. Second, insurance can facilitate income smoothing, and support investment decisions at the macro and micro levels by relaxing budget constraints in doing so. For example, investments related to the adoption of technologies or specialization in agriculture (second dividend). The third dividend refers to insurance being a source of significant co-benefits by supporting greater institutional transparency or by contributing to the adoption of adaptive behaviours.
Sovereign climate and disaster risk pooling
Although more than one billion people have lifted themselves out of poverty over the past fifteen years, climate and disaster risks threaten these achievements. According to a World Bank study, global economic losses from disasters are now reaching an average of more than US$300 billion annually. The report also finds that the impacts of disasters on well-being are equivalent to up to a US$520 billion drop in consumption (60% more than the asset losses usually reported) and force about 26 million people into poverty every year (Hallegatte et al., 2017). Consequently, countries also experience increasingly complex threats that often compound the negative impacts of disaster and climate shocks – from migration caused by fragility and conflict situations, to the risk of pandemics. It is estimated that some 93% of people are living in countries that are politically fragile and/or environmentally vulnerable. To this end, for example, the United Nations humanitarian appeal in 2017 stood at a record US$22.2 billion, to help about 93 million people affected by conflicts and natural disasters.
Post-disaster response financing, including donor assistance and commercial insurance, covers only a fraction of disaster losses, which in turn creates a protection gap. Over the last ten years, an average of just about 30 percent of catastrophe losses have been covered by insurance. This, in turn, translates to about 70% of catastrophe losses having to be borne directly by individuals, firms and governments (SwissRe, 2016).
Financial protection involves planning ahead to better manage the cost of disasters, ensure predictable and timely access to much needed resources, and ultimately mitigate long-term fiscal impacts. As such, in the intermediate aftermath of a disaster, being able to rapidly access financial resources is crucial to save lives and livelihoods (World Bank, 2017).
Catastrophe risk pools are emerging as a cost-effective vehicle to help countries access rapid financing for disaster response. These allow countries to pool risks in a diversified portfolio; retain some amount of risk through joint reserves/ capital portfolio; and transfer excess risks to the reinsurance and capital markets. Twenty-six countries have joined the sovereign catastrophe risk pools in three regions, namely Africa, the Pacific, and the Caribbean and Central America, over the past ten years or so. These countries have purchased parametric catastrophe risk insurance for an average aggregate coverage of US$870 million and an aggregate premium volume of US$56.6 million (2016/17), backed by more than 30 reinsurance companies.
This type of insurance solution (parametric) allows for rapid payouts in the event of a disaster by providing liquidity within a few weeks to finance rapid response. The success of this form of sovereign catastrophe risk pools, however, relies on a combination of technical assistance, significant financial support, and strong political commitment (World Bank, 2017). At the regional level, such catastrophe risk pools would require a regional partner organization to facilitate the political and policy dialogue and coordination between participating governments.
Further, disaster risk financing solutions require that participating countries be committed to implementing necessary policy reforms (World Bank, 2017).