The African countries of Madagascar and Morocco are the latest to benefit from a Catastrophe Deferred Drawdown Option (Cat DDO) instrument issued by the World Bank, as further steps are taken to make them more resilience to natural disasters and climate related risks.
The Catastrophe Deferred Drawdown Option (Cat DDO) has become a staple of countries interesting disaster risk financing with the help of the World Bank.
Designed to deliver financing contingent on the occurrence of catastrophes, the CAT DDO enables funding to be disbursed almost immediately after disaster events occur.
Designed and provided by the World Bank, the Cat DDO provides a similar type of protection to a catastrophe bond, in that it promises capital liquidity right when disasters of a certain impact or magnitude occur.
They are efficient and cost-effective ways to guarantee funding is available at a time when other sources of capital can lock-up, hence are often seen to be a precursor to governments moving more meaningfully into acquiring catastrophe risk protection, through insurance and reinsurance markets, or the capital markets through catastrophe bonds.
Madagascar has received a US $50 million Disaster Risk Management Policy Grant from the International Development Association (IDA) with a Deferred Drawdown Option for Catastrophe Risks (Cat DDO), the World Bank announced.
“As we approve this financing, my thoughts go to the families affected by the recent cyclone Belna in the northwest of Madagascar,” commented Marie-Chantal Uwanyiligira, World Bank Country Manager for Madagascar. “This program seeks precisely to enhance the country’s ability to prepare for natural disasters and provide financing to ensure an immediate help to those in need.”
The Disaster Risk Management Development Policy grant with Catastrophe Deferred Drawdown Option (Cat DDO) is designed to provide “rapid access to financing in the event of a natural catastrophe,” the World bank said, while also helping to support reforms designed to enhance Madagascar’s disaster risk management and financial resilience to disasters.
Importantly, the project is also about “mainstreaming disaster and climate resilience into territorial and urban planning,” in the country.
The Cat DDO can be drawn-down from after it is triggered by a declaration of national state of emergency by the government of the country, following Madagascar’s laws.
“Damages and losses from disasters have a high economic and fiscal impact on Madagascar that can reverse years of progress. Disasters disproportionately affect the most vulnerable and therefore pose an important obstacle to poverty reduction if adequate measures are not taken,” said Michel Matera, World Bank senior Urban Specialist and the project’s task team leader.
Madagascar faces average annual disaster losses of $100 million just from cyclone and flood risks, while each year is a 10% chance damages will exceed $240 million and a 5% chance they will exceed $600 million.
Madagascar is shifting its focus towards Disaster Risk Management (DRM) and the World Bank sees the CATC DDO arrangement as a step towards more proactive disaster risk financing mechanisms being put in place.
Morocco has received a US $275 million Disaster Risk Management Development Policy Loan containing a Deferred Drawdown Option for Catastrophe Risks (Cat DDO).
The structure is designed to help Morocco strengthen its capacity to cope with and manage the financial impact of natural disasters and climate-related shocks,while upgrading its institutional framework for disaster risk management.
“The Cat DDO aims to help Morocco develop a comprehensive framework for disaster risk management, building on a previous World Bank-supported program, the Integrated Disaster Risk Management and Resilience Program for Results. Developing a comprehensive risk insurance is particularly critical for the vulnerable population whose livelihood can be threatened in the event of a natural disaster,” explained Jesko Hentschel, World Bank Maghreb Country Director.
In the case of Morocco, the Cat DDO will also support the reforming of its Solidarity Fund against Catastrophic Events (Fonds de Solidarité contre les Evénements Catastrophiques, FSEC).
This is effectively a source of publicly funded reinsurance to support the private insurance sector that provides compensation to the uninsured, such as the poor and most vulnerable when disasters occur. The fund makes use of sophisticated risk financing instruments to cover losses caused by extreme flooding and earthquakes in Morocco.
It’s being reformed to include a parafiscal charge on insurance policies, which is designed to create a sustained source of financing for the FSEC, as well as other measures that will help to support the private insurance market in case of a catastrophic event in Morocco.
This reinsurance like catastrophe pool could one-day be suited to transferring into the private markets, with the capital markets and catastrophe bonds a structure that could be used to take the cost of funding that catastrophe fund away from the government and taxpayer.
Of course premiums would need to be paid at that stage, which is why these reforms tend to be relatively slow moving as public catastrophe fund structures are set into a state where by they can be more economically transferred and organisations like the World Bank can provide necessary support with risk transfer structuring and funding.
After a natural disaster occurs the Cat DDO would give the Moroccan government immediate access to liquidity, adding a critical layer of financing to Morocco’s risk management arrangements.
“The program will help the government’s understanding of the financial risks associated with natural disaster and also improve its knowledge of how to prevent these risks through better investment planning and more investment in risk reduction, preparedness, and financial protection,” Augustin Maria, Senior Urban Development Specialist and co-Task team leader commented.
Other African nations with Catastrophe Deferred Drawdown Options (Cat DDO) in place include Seychelles, Kenya, Malawi and Cabo Verde.
It’s encouraging to see the continued use of the CAT DDO as a tool to help governments secure disaster risk financing.
These instruments act as a mechanism to educate governments and sovereign stakeholders on the potential use of insurance, reinsurance and other risk transfer tools, such as parametric risk transfer or catastrophe bonds, to enhance their countries protection and resilience to disaster risks.
The experience gained in securing Cat DDO coverage can prove to be a step on the journey to looking at solutions such as the IBRD catastrophe bond arrangements, or parametric triggers for insurance and reinsurance, in a nations journey to better disaster risk financing security.