A research report published by the China Development and Research Foundation (CDRF), and sponsored by global reinsurance firm Swiss Re, suggests the use of parametric triggers in insurance to provide post-disaster relief and reconstruction financing.
The research, which Swiss Re and the CDRF teamed up to produce after entering into a joint agreement to look into natural disaster insurance solutions and the reform of the Chinese disaster relief system, found that parametric insurance solutions are a feasible fiscal instrument for disaster and reconstruction financing for China.
The research assessed the state of disaster relief and recovery in China and looked at how parametric insurance solutions could be implemented to provide contingent, just-in-time, financing for the government and other Chinese entities which would suffer a lack of financial liquidity after major natural catastrophe events. The research also looked into how the Chinese governments fiscal reserve systems could be boosted through the use of parametric structures.
Parametric triggers, which are calibrated to respond to actual disaster parameters, thus ensuring payouts are closely linked to actual damage caused, are made only after sufficiently large disasters happen and allowing these payouts to be made rapidly, can provide this type of contingent catastrophe cover for governments and state entities in China.
As part of the research program a pilot project was established, which saw a parametric insurance cover designed by Swiss Re for the Tianjin municipal government in China, with the goal of providing earthquake protection to the municipal governments fiscal risks.
Ivo Menzinger, Head of Asia-Pacific and MD of Global Partnerships at Swiss Re, told Artemis; “Swiss Re is committed to help find innovative ways of closing the gap between total economic and insured losses of natural disasters, in particular in high growth markets. We are very encouraged by the findings of the CDRF report that parametric solutions may be a useful and complementary fiscal instrument for disaster relief and reconstruction.”
The lack of an insurable interest to cover should not be a hindrance to advancing this goal, in China or any other emerging or growing economy, with parametric triggers likely the best suited to provide a source of financial relief through risk transfer of economic losses from natural disasters and weather catastrophes.
As we’ve written before recently, these parametric insurance products and initiatives could provide a real opportunity for investors in the insurance-linked securities (ILS) and catastrophe bond markets. In our experience, ILS investors and fund managers have a strong appetite to grow into providing these types of contingent covers, despite the lack of insurable interest which may put off some in the traditional re/insurance market.
It’s an important distinction, as the lack of insurable interest turns these parametric covers into an economic or fiscal protection tool, something that emerging and developing economies need access to, financing when major events occur, and that the ILS market may be very good at providing.
Traditional reinsurers like Swiss Re are laying the groundwork in many emerging and frontier markets, like China, helping the governments and local insurance industries to get up to speed with techniques such as parametric insurance. It may fall to the capital markets to ultimately provide a portion of the capacity required to finance these disaster risks, which the ILS investor base would no doubt be delighted to get involved in.