The insurance industry is in a unique position in the fight against climate change: It can encourage behavior changes simply by doing what so many governments have avoided – putting a price on ignoring the danger.
Just as insurance discounts can encourage safe driving practices, insurers can persuade their clients to embrace energy efficiency and reduce greenhouse gas emissions with financial incentives. Their massive investment power can further pressure corporations and states to take action.
The self-interest is obvious: The potential for insured losses is enormous as global warming brings on stronger storms, longer droughts and more intense heat waves.
"Perhaps no industry is more aligned with the world's self-interest in preventing the destructive effects of climate change than the insurance industry," says Mike McGavick, CEO of XL Capital Ltd.
Just look at some of the recent numbers:
✻ Severe flooding in central Europe in August 2002 caused damages estimated at 15 billion to 20 billion euros, about 0.7 percent of the countries' combined GDP.
✻ France's deadly 2003 heatwave cost agriculture alone about 4 billion euros.
✻ Hurricane Katrina in 2005 resulted in losses of about $125 billion, just under 1 percent of the United States' GDP.
✻ In Kenya, droughts in 1999 and 2000 racked up damage amounting to 16 percent of GDP, about a quarter of it due to hydropower loss.
Yet, even though insurers are the masters of risk assessment, they're still stuck in reactive mode when it comes to climate change, a group of insurance CEOs and climate experts writes in a new report from the International Association for the Study of Insurance Economics, better known as the Geneva Association.
The investor network Ceres, which follows the industry, came to a similar conclusion earlier this year, writing: "The scale of risk this industry faces — and the opportunities that can be capture by those who act — call for much more dramatic and far-reaching action."
Both reports give dozens of examples of how insurers have taken positive steps to help corporations reduce their exposure to climate change — Ceres found a 50 percent increase in climate-related activity by insurers from 2007 to 2008. Yet both also see a far greater, untapped potential.
"Climate change represents the greatest long-term challenge to the industry," the CEOs write in the Geneva Association report.
Their report spells out in detail the threats that civilization — and the companies putting up trillions of dollars to insure it — face as the planet warms and climates change.
Accompanying it is a statement signed by 56 industry leaders affirming their commitment to climate change research, products that incentivize reducing greenhouse gas emissions, services that support climate change adaptation, and investments in clean energy products.
"Climate change is considered as one of the most serious risks which could affect the whole socio-economic structure of any country in the world," the report's authors write.
"Climate change has caused a rise in average temperatures, localized torrential rain, drought and water shortages in various parts of the world. These phenomena have caused not only damages to property but have also led to economic losses such as the deprivation of income opportunities, which are all as a result of natural disasters. Further more, climate change will also have a serious impact on human life, health, the ecosystem, biodiversity, which also needs to be considered.
"Under these circumstances, the insurance industry needs to recognize climate change as threat which will severely influence the entire socio-economy of the world."
A Reactive Industry Gets Proactive
As the Ceres report showed, the industry has been evolving, led by European experience with stricter climate laws and regulations.
Early pressure in Europe for the Kyoto Protocol came from Swiss Re and Munich Re, reinsurance companies that recognized how climate could jeopardize their risk assessments. Their research in the late 1990s began framing climate change as a business risk.
Insurers in Asia and Australia have followed their lead. And in the UK, 40 of the largest insurers have committed to the ClimateWise principles: lead in risk analysis, inform public policy making, support climate awareness among consumers, incorporate climate change in investment strategies, and report and be accountable.
The U.S. has lagged on policy engagement, but it is advancing when it comes to insurance product innovation, said Andrew Logan, director of oil and insurance programs at Ceres.
"Where there's an obvious way to make money, we're seeing a lot of action in the U.S. Whereas, longer term, we're not seeing as much," he said.
But the industry is coming around to more active involvement in climate issues. One driving force is the National Association of Insurance Commissioners, which voted in March to begin requiring insurers to report every year on how their businesses are impacted by climate change and what they were doing to manage the risks. Logan expects to see involvement in climate issues ramp up in the coming year.
The Geneva Association CEOs also expect insurers worldwide to make the shift from being reactive to proactive over the next year as the industry redefines its role, with more emphasis on sharing its risk assessment expertise, developing risk management tools such as hazard maps, creating insurance products and services that shift clients toward less climate-damaging practices, and increasing their emphasis on educating clients and communities about steps they can take to mitigate risks.
Insurers already need to understand geology, meteorology and building codes to properly assess risk. By educating the public, policymakers and corporations through ad campaigns, shareholder advocacy, environmental performance reviews and sharing information, they reduce their own risk, while also positioning themselves to influence local planning processes so what gets built is fit to be insured.
"People will generally not accept the same lax attitude toward risk management by governments if they are fully aware of the consequences," the CEOs note.
For the insurers themselves, while the potential for expensive losses is immense, climate change also creates new opportunities for underwriting and sustainable investments that serve both the insurers' and the planet's best interests, the association writes.
For example, they can encourage energy efficiency and cleantech developments by insuring new technologies, which helps startups secure bank loans and speeds their transfer to the market. Swiss Re, for one, helped to establish the European Clean Energy Fund to invest in energy efficiency and renewable energy projects. Realistically, however, generating a high level of investment in these areas may require governments setting a price on carbon — the investment goal is still to make money.
For poor countries, insurers talk about about microinsurance embedded in microfinancing. In Malawi, for example, farmers can buy index-based drought insurances linked to loans that improve the farmer's credit worthiness. Globally, about 7 million policy holders are covered by microinsurance, primarily in South America, Africa and Asia, according to CERES. Several Caribbean island nations recently formed the world's first multi-country and index-based catastrophe insurance pool, the Caribbean Catastrophe Risk Insurance Facility, primarily to help with hurricane damage.
Insurers can also provide incentives through premium discounts for businesses that reduce energy consumption, for drivers of low-emitting vehicles — or for driving less, under new pay-as-you-drive plans — or for companies that improve their water supplies, infrastructure and drainage systems.
Similarly, the report suggests, they could provide discounts for companies that adopt eco-friendly technology — and premium increases, where regulations allow, for those that don't.
"Few insurers are involved today in efforts to promote resource productivity, which would also help to strengthen the societal an economic resilience to climate change," the CEOs write.
"It can be a powerful mechanism to discover and incentivize the right behavior."
Leverage of a Big Money Manager
Insurers also wield another powerful tool: They are big investors.
The Amsterdam Circle of Chief Economists estimates all insurance assets to total about 11 percent of all assets worldwide. The authors note, though, "it would be naïve to assume that asset managers in insurance would stop investing in a certain sector solely because of that sector's negative climate impact. As long as external effects on climate change are not fully internalized by those actors responsible for them, asset managers will respond to the distorted incentive to invest."
To force corporations to take responsibility for the climate actions, the CEOs are calling on the world's biggest polluting nations, meeting this week in Italy, to support laws and regulations that can account for emissions and fight climate change.
"Governments must establish an international agreement and commitment to reduce greenhouse gas emissions, and a well-founded national strategy for climate adaptation across various sectors of society," the CEOs write.
The key to spurring climate action is getting the true cost of greenhouse gas emissions onto the corporate balance sheets, they write. So far, U.S. politicians have been leery of putting a price on greenhouse gas emissions and climate-changing behaviors such as deforestation.
Motivators for the Industry
Hurricane Andrew in 1992 was a global warming wakeup call for the insurance industry and customers who rely on it. The hurricane's devastation across Florida left 12 insurance companies insolvent and led to the creation of a state-backed insurance and reinsurance systems of alternatives to the private market. During the 2004-2005 hurricane season that battered Florida, more insurers pulled out.
Climate change will bring even worse conditions: hotter and drier weather in the subtropics; wetter and stormier conditions in the northern United States, Canada and northern Europe. Coastal flooding and aquifer salination will become problems in low-lying areas.
Melting sea ice and thawing permafrost are already causing structural problems for residents in Alaska and the Arctic.
The Alaskan village of Kivalina, where the sea ice that once buffered the community from storms has largely disappeared, is an example of another climate change risk that major greenhouse gas emitters are already beginning to face: lawsuits. Kivalina is suing ExxonMobil for $400 million to relocate its 400 residents. Swiss Re recently warned its clients that climate change could become the new asbestos of the legal system.
The insurance company CEOs see both huge potential and huge risk in climate change. They're urging a shift within the industry to risk pricing that is based on up-to-date scientific models and eventually to a holistic approach to climate change rather than insurance that separately addresses its various elements, such as water shortages, hurricanes and wildfires.
"The insurance industry is at the beginning of the learning curve with regards to climate change," said Bruno Pfister, CEO of Swiss Life.
The CEO authors of the report add:
"The global insurance industry has already been feeling the impacts of a changing climate for many years and certainly will feel these impacts under continued anthropogenic climate change over the coming decades."
"An effective response to get out of harm's way is overdue."