Government Bailout or Catastrophe "Insurance"?
November 2006
History reveals a continuous string of catastrophes:
earthquakes, floods, tsunamis, volcanoes, and terrorist events. The impact to
individuals or businesses has been addressed by insurance/reinsurance and various
governments. Regardless of whether citizens had the opportunity to purchase
insurance, governments have assisted by filling at least a portion of the gap
between coverage or lack thereof and the losses.
by Gary
J. Bausom
Bausom & Associates, Inc.
We need to step back and review some recent U.S. catastrophic losses. At
this writing, it appears as if the 2006 hurricane season is next to zero. The
following figure lists several large U.S. losses from previous years.
FIGURE
1
Losses like these, over the past 10 years, have invoked a response from the
federal government along with contributions from states, relief organizations,
and private individuals. Hurricanes, for example, have caused some of the largest
losses where commercial insurance/reinsurance has paid out significant funds;
however, these insurance payments represented approximately 50 percent of the
total damages where limits or coverage purchased or available were inadequate
to cover sustained losses. Losses for infrastructure are largely self-insured
by government.
The Munich Re/Swiss Re’s recent reports reflect significant payments by insurance/reinsurance
contracts. But the total losses are approximately twice the insurance payments.
Where commercial insurance was not purchased or purchased with insufficient
limits or scope of coverage, the government has stepped in to help reestablish
a geographic area to boost the economy. Beyond human dignity and the general
welfare of its citizens, the government is motivated by wanting to get citizens
back "on their feet" economically so they can rejoin other members of the tax-paying
public.
Government assistance is not limited by geography. A recent example is when
fighting broke out in Lebanon in 2006 and U.S. citizens were "trapped." The
federal government, including the Navy and the Marines, came to the rescue.
The government response was not, "Sorry, catch the next canoe to Greece and
then find a flight home on your own." There were few questions, and the government
did not take time to see if these were up-to-date tax-paying citizens!
In another example, during the 2004 tsunami in Indonesia, aid poured in from
all over the world—governments, relief organizations, corporations, and private
citizens—to the tune of $7 billion. The U.S. initially pledged $35 million,
quickly increased it to $350 million and President George W. Bush then asked
Congress to increase it to $950 million. Total damage from the tsunami is estimated
at from $4.5 billion to $5 billion.
In the United States, the government budget for FY 06 calls for approximately:
$447 billion for Defense, $33.6 billion for State Department, $49.9 billion
for Homeland Security (CIA, Secret Service, Coast Guard, etc.), and $94.6 billion
for Agriculture (including protection of food supply). The U.S. Government spends
billions on global image (State), security and loss prevention (Homeland Security
and Agriculture), and response (Defense).
The dollars are budgeted for certain expected line items, but in fact may be
spent differently, depending on the unexpected. I doubt any government official
questioned how much we had in the budget before the decision was made to bail
our citizens out of Lebanon when war broke out.
Hurricane Katrina is a good example of an event that will be paid for by
government assistance likely extending over more than 5 years. In government
terms, what is $10 billion over 5 or 10 years? It's just "a bump in the road."
Deficit spending does not seem to worry too many politicians in Washington for
programs with less clarity than a catastrophe in terms of spending.
Terrorism
From a U.S. perspective, there has been a backdrop of financial protection
against terrorist acts, provided by the Terrorism Risk Insurance Act (TRIA)
of 2002, which the government extended to December 31, 2007. As most insurance
professionals know, this protection is focused on terrorist acts within the
United States, perpetrated by non-U.S. citizens.
Premiums under TRIA are fairly reasonable for most insureds. However, New
York City is an exception due to limited capacity and high premiums. The insurance
companies, in a risk-sharing view, have been forced by the federal government
to take very large deductibles (multiples of their net and treaty capacity),
a function of their written premiums.
The TRIA insuring terms, established by the U.S. Treasury, present a challenge
just to maintain a current understanding. Most policyholders will very soon
face the question of what to do about terrorism cover when they renew property
insurance contracts in 2007. Without a further extension of TRIA, insurance
companies are likely to exclude cover for terrorism beyond December 31, 2007,
with no obligation to offer terrorism quotes.
So what happens if TRIA is not extended? How much risk is there? How important
is a formal TRIA deal? It is likely that it is important to the U.S. government
to obtain some contribution from the insurance industry. The large insurance
companies, such as AIG, Allianz, Zurich, etc., based on the TRIA formulas, are
forced to take a deductible five or six times their net capacity, and they do
not have the option of buying adequate reinsurance protection for their net
risk retentions.
For an elected official, it is political suicide to be anything less than
forthright with funding for a catastrophe. Failure to act decisively and generously
would likely number your days in office as determined by the next election or
even a possible recall. Additionally, the credibility of your party could be
damaged beyond any near-term repair. The further extension of TRIA, beyond December
31, 2007, would appear to reduce the angst for politicians having to make a
decision, under fire, at the time of a crisis.
Conclusion
If or when we have a pandemic, a dirty bomb, or a biological attack, no government
in the world is going to stand by and tell its citizens that they should have
purchased insurance. Obviously, the government response will be in proportion
to its existing resources, borrowing capacity, and foreign aid. Catastrophic
events will need to be addressed jointly by governments, personal generosity,
and perhaps some insurance. The majority of funding in a loss will not likely
come from insurance, but from the government.
Opinions expressed in Expert Commentary articles are those of the author and are
not necessarily held by the author's employer or IRMI. Expert Commentary articles
and other IRMI Online content do not purport to provide legal, accounting, or other
professional advice or opinion. If such advice is needed, consult with your attorney,
accountant, or other qualified adviser.