The World Bank actively working to emulate its successful establishment of the Pandemic Emergency Financing Facility (PEF) for other humanitarian crises, such as famine, including the use of financial market risk transfer instruments, such as the pandemic catastrophe bonds and swaps.
With the set up the Pandemic Emergency Financing Facility (PEF) earlier this year, the World Bank tapped into the capital markets appetite for relatively uncorrelated sources of risk as investments, utilising the insurance-linked securities (ILS) market and institutional investors appetite for reinsurance linked assets to provide the risk capital necessary to back the Facility.
The $500 million PEF set up involved $320 million of pandemic catastrophe bonds and a further $105 million of pandemic risk linked swaps as the core of its risk transfer arrangements, providing the reinsurance to back parametric risk transfer coverage for developing countries against the risk of pandemic outbreaks across a five year term with capital markets backing.
Using the capital markets and ILS techniques for reinsurance to underpin the facility, led to efficient execution and pricing for the PEF, making the facility a viable concern even when covering developing nations.
Now the World Bank wants to see whether similar techniques can be used for other humanitarian crises, such as the outbreak of famine in developing regions of the world. Here the same financial market techniques can package the risk using parametric triggers, to ensure rapid distribution of funds after any event triggers the facility, while the capital markets and ILS investors can provide efficient execution and pricing again.
Speaking in Washington recently, the World Bank’s President, Jim Yong Kim, explained that the institution is looking to take learnings from the pandemic transaction and apply them to other humanitarian crises.
Kim explained that the World Bank is using capital market techniques for social good, “We use swaps to mitigate currency risk and interest rate risk, and we’re developing new derivative instruments to manage all kinds of risk such as commodity risk, disaster risk, and weather risk.
“For decades, the rich have been using sophisticated financial tools such as leverage, swaps, derivatives, insurance. We’re using all of those tools – and creating new ones – to serve the poor.”
These tools are being put to work to help promote sustainable growth that is inclusive of all people in developing regions of the world and to build resilience to the shocks and crises that could derail growth in its tracks.
Kim continued, “We’re helping countries build resilience by finding new ways to share risks with the capital markets. Too often when it comes to crises like pandemics, we fall into a cycle of panic and neglect: we deal with outbreaks when they become a global threat – and then we quickly forget about them after the threat subsides.
“This year, we took a large step to break that cycle with an instrument we call the Pandemic Emergency Financing Facility. For the first time, we have actual pandemic insurance – a 450-million-dollar policy that will automatically disburse funds to the poorest countries when an epidemic reaches a critical stage.
“We learned a lot from the Ebola outbreak in West Africa – if we had had this kind of instrument, we would have been able to disburse a 50 million dollar cash window at the first sign of an outbreak to try to contain it. Larger sums would have been disbursed if the pandemic grew worse, saving thousands of lives and billions of dollars.”
The pandemic transaction, with its parametric triggers and the risk transferred to ILS and institutional investors fits this model perfectly and hence the World Bank is seeking to emulate it for other potential shocks and crises.
“Now, for the first time, pandemic risk in low-income countries is being shared with the financial markets. Why can’t we do the same thing for famine, or other humanitarian crises? I believe we can, and we’re working on it right now,” Kim explained.
The same model could certainly work for famine, as there are weather or climate, agriculture and growing season related data points that could be used to construct a trigger for such a Famine Emergency Financing Facility.
The risks would likely be of interest to the same sets of investors, as they can be said to have a low correlation with the wider financial markets and in the case of famine are linked to weather factors.
For other potential humanitarian crises to be treated in the same way it will be key to find triggers that can be deemed to be objective, relatively uncorrelated and removed from political influence.
When the pandemic facility was launched, Kim said, “We are leveraging our capital market expertise, our deep understanding of the health sector, our experience overcoming development challenges, and our strong relationships with donors and the insurance industry to serve the world’s poorest people. This creates an entirely new market for pandemic risk insurance.”
It seems eminently possible that the same could be done for other risks that developing economies face, positioning the ILS market and its investors at the heart of global efforts to finance risk for social good.
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