April 24, 2023
- Only a quarter of climate-related catastrophe losses are currently insured; the gap is expected to widen as the impact of climate change increases
- The insurance gap poses risks to the economy and financial stability
- ECB and EIOPA outline policy options to promote insurance against climate catastrophes
The European Central Bank (ECB) and the European Insurance and Occupational Pensions Authority (EIOPA) published today a joint discussion paper on how to better insure households and businesses in the European Union against climate-related natural disasters such as floods or forest fires. The policy options outlined in the paper aim to increase the uptake and effectiveness of climate catastrophe insurance, while creating incentives to adapt and reduce climate risks.
“We need to increase the use of climate catastrophe insurance to limit the growing impact of natural disasters on the economy and the financial system,” ECB Vice President Luis de Guindos said. “However, to reduce losses in the first place, we need to ensure that a smooth and rapid green transition is complemented by effective climate change adaptation measures.”
EIOPA Chair Petra Hielkema added: “Insurance plays a major role in protecting businesses and people against losses from climate-related catastrophes by quickly providing the necessary funds for recovery. To effectively protect our society, we need to respond to the concern of the growing gap in insurance protection by proposing and finding appropriate solutions.
Currently, only about a quarter of all climate-related catastrophe losses in the European Union are insured. In some countries the figure is below 5%. This is partly because many people underestimate the cost of climate-related damage. Some also eschew insurance, preferring to rely on government support. As natural disasters become more frequent and more severe, insurance costs are expected to rise. Some insurers may reduce risk coverage or completely stop providing certain types of accident insurance, which will further widen the insurance gap.
Lack of insurance against climate catastrophes can affect the economy and financial stability. If losses are not covered by insurance, the speed with which households and businesses can resume operations is reduced, slowing economic recovery. Prolonged supply chain disruptions can also lead to spillovers from one firm to another and affect firms’ ability to repay loans, thereby increasing banks’ exposure to credit risk. In addition, the financial position of governments may be weakened if they have to provide assistance to cover uninsured losses.
To promote insurance coverage, the ECB and EIOPA suggest that insurers design their policies to encourage households and firms to reduce risk, for example by providing discounts for implementing effective mitigation or adaptation measures. To support the overall supply of insurance, the use of catastrophe bonds could be increased to shift some of the risk to capital market investors. Likewise, governments could create public-private partnerships and safeguards to partially cover the costs that insurers may incur in the event of major disasters. To protect themselves and ensure that public funds are used effectively, governments must also provide strong incentives to reduce risks. Finally, insurance schemes at national level could be complemented by an EU-wide public scheme that ensures that European countries are provided with sufficient funds to recover from rare, large-scale climate-related disasters.
The joint discussion paper is part of the ECB’s climate agenda and more broadly its work to improve understanding of climate-related risk. The paper aims to encourage debate on how to close the climate insurance protection gap. The ECB and EIOPA will gather feedback on the policy options and also discuss them at a workshop with regulators, policymakers, insurers and academics on 22 May 2023.
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