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- Report n°3: Financial protection of critical infrastructure
Report n°3: Financial protection of critical infrastructure
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Table of contents
- On the morning of September 11 2001 : financial protection and new vulnerabilities
- September 12: terrorist risk without insurance
- On the morning of September 11 2001 : financial protection and new vulnerabilities
September 12: terrorist risk without insurance
Immediately after 9/11, the insurance and reinsurance industries were therefore confronted with unprecedented compensation amounts, with a clear repercussions for their future commitment. In particular, reinsurers - most of them European - bore the brunt of almost two thirds of the total losses insured (Lehman, 2004).
It must not be forgotten that the events of 9/11 also occurred after a series of unusually numerous and financially onerous natural disasters in the last 15 years. Figure 2 shows the global evolution of the amounts of insurance (and reinsurance) reimbursements since 1970. It appears very clearly from this data that the 1990s manifest a radical change in the occurrence of particularly costly natural disasters, so that several insurers were obliged to file for bankruptcy after major disruptions such as hurricane Andrew in 1992 or the Californian earthquake in 1994. For information, nearly 80% of the 45 costliest events in the period 1970-2004 took place between 1990 and 2004.
Furthermore, most of the major reinsurers had invested heavily in the financial markets at the end of the 90s. Falling value of securities also had a marked effect on their own financial capacity and liquid assets. Suffering from both these effects - costlier natural disasters and fall in the value of their financial assets - most of them decided to sharply reduce their terrorist coverage immediately following September 11 and to notably increase their prices, or even to cease covering terrorist acts altogether for the time being.
Via a domino effect, insurers who had transferred part of their risks to reinsurers found themselves faced with a revealed risk associated with extreme potential loss and considerably reduced reinsurance capacity. In response to this situation, the insurance industry immediately limited the coverage offer (which is not a market failure as such, but rather a reaction to a specific shock: large losses, reduced capacity, upward reassessment of disaster potential, increase in the price of reinsurance) or even refused to renew, insofar as existing regulations in their countries allowed, after expiry dates, insurance policies covering the risk of attacks(20).
In France, insurers began by announcing in the fall of 2001 that they would not renew beyond December 31 (the expiry date of most contracts) a certain number of policies they judged to be excessively risky. Now if those policies were not renewed, a number of companies would have been unable to take out insurance not only for the risk of terrorism, but would also have been left without cover for property and casualty insurance, since those two risks were bound together by law since 1986. This reaction led the Treasury Department to enter into negotiation with private sector insurance to work out a program for commercial coverage as of January 1, 2002.
It should be added that it is easier for reinsurers to back out of a market than it is for insurers, since the latter have to conform to a greater number of more constraining regulations in the countries in which they operate (21).
(20) For example, AXA decided as early as October 2001 to back out of a contract they had signed with the International Football Federation to cover the risk of cancellation of the World Cup in 2002 in Japan and Korea (more than 900 million euros coverage). However the risk was immediately subscribed by the American financier and insurer Warren Buffet, which is a good illustration of the fact that one man's non-insurable risk is not necessarily another's.
(21) For example, after the 1994 Northridge earthquake in California, which inflicted more than 17 billion dollars worth of insured losses (2002 prices), a number of insurers wanted to withdraw from this market which they now viewed as too risky. However, the Congress of California voted a new law prohibiting insurers operating in the State to withdraw more than 5% of their portfolio per year for cover against earthquakes.