California disaster risk transfer bill proceeds, but quakes removed

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The California legislation that calls for approval for the state to purchase insurance, reinsurance, insurance-linked securities (ILS), or other alternative risk transfer (ART) structures, to help fund the economic burden from natural disasters, continues to make progress.

California flag mapBill SB 290 had already passed the California Senate recently, as lawmakers voted unanimously to continue its passage into the state Assembly.

Now the bill has made progress there as well, as its sponsor said the key Assembly Insurance Committee had given its unanimous support for the measure, raising the chances that we could see California buying insurance or insurance-linked securities (ILS) in the months to come.

SB 290 was introduced by lead sponsor Senator Bill Dodd, D-Napa, and co-sponsored by Insurance Commissioner Ricardo Lara and Treasurer Fiona Ma.

Under the proposed law, California could become a purchaser of ILS or catastrophe bonds, to transfer some of its disaster exposure to financial markets.

The bill had launched with a focus on covering some of the state’s losses from earthquakes, wildfires and flooding.

But now, the bill text has been amended and it’s interesting to see that earthquake risk has been struck through to remove it from the text, while mudslides have been added instead.

Hence the bill now reads:

The Governor may, in accordance with this section, purchase insurance, reinsurance, insurance linked securities, or other related alternative risk-transfer products for the State of California to help mitigate against costs incurred by the state in response to a mudslide, wildfire, or flood.

It seems strange to remove earthquake risk from this bill, as the exposure the state and as a result its taxpayers carry is enormous, given the lack of earthquake insurance penetration in California.

Disaster risk transfer laws to allow the state to offload some of the financial risks associated with a major earthquake seem eminently sensible for California, given the huge damage that could be seen to state infrastructure and other expensive assets.

But lawmakers have decided quake risk should not live on in this bill, which is a shame but perhaps not all that surprising.

Encouragingly the other key section of the bill remains intact:

The Office of Emergency Services, or another agency designated by the Governor, shall work with the Treasurer and the Insurance Commissioner to determine the appropriate insurance, reinsurance, insurance linked securities, or related alternative risk-transfer products to be purchased by the state pursuant to this section.

ILS and catastrophe bonds, or traditional insurance and reinsurance capital, could be used as contingent financing structures to secure capital that California would be able to use in the event of a major disaster, a trend increasingly raised in political circles globally.

Risk transfer can remove some of the burden that disasters create for the state and taxpayers, while also providing access to efficient capital that can pay out rapidly to assist in disaster recovery efforts, especially when structured to use a parametric trigger.

In this way the state of California could become better financially prepared for disaster, tapping into reinsurance or capital markets as sources of financing and leveraging the structures seen across insurance and ILS markets to achieve that.

“Rising wildfire suppression costs can strain California’s financial resources and threaten cuts to critical programs,” commented Sen. Dodd, D-Napa. “This bill allows the state to invest in an insurance policy to ensure budget predictability and reduce taxpayers’ exposure to increasing costs associated with disasters, especially wildfires.”

“With extreme wildfires driving up the cost of firefighting to protect communities, disaster insurance will leave California in better financial shape,” added state Insurance Commissioner Lara. “Having insurance for our state budget can help us better prepare before the next disaster strikes.”

“Today’s action brings us one step closer to giving the governor, myself, and the insurance commissioner the ability to purchase insurance, reinsurance, insurance-linked securities, and other alternative risk transfer products to help pay costs resulting from natural disasters,” state Treasurer Ma said. “It makes good financial sense to do this.”

As it continues to make progress the chances of California realising an ambition to better protect itself and its taxpayers against disaster, boosting financial resilience in the process, increase. Although it must be said the removal of the potential to transfer earthquake risk off the states balance-sheet seems both strange and short-sighted.

But, seeing a state like California in the market for disaster risk insurance protection, whether traditional and backed by reinsurance capital (some of which could be ILS fund sourced of course) or using an ILS structure with the full participation of capital markets, would help to raise the profile of the use of disaster risk transfer by government entities.

That would be positive for encouraging others to do the same and beneficial to communities at risk of disaster everywhere.

The bill will continue to pass through committees in the California Assembly before heading for a full floor vote.

More details on the proposals can be found in a previous article here.

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