Climate change: How to recruit the insurance industry for the battle

Guest Opinion: Floods, fires and other catastrophes will inevitably increase -- and cost us all more, unless we create financial incentives for companies to act smartly. Insurance is one lever we have.
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Washington Insurance Commissioner Mike Kreidler at a 2009 rally in support of health care reform.

Guest Opinion: Floods, fires and other catastrophes will inevitably increase -- and cost us all more, unless we create financial incentives for companies to act smartly. Insurance is one lever we have.

Who said this? “It would seem that the only plausible explanation for the rise in weather-related catastrophes is climate change.” It may surprise you to learn that this is the statement of an insurance company — Munich Re, one of the largest in the world.

Unlike Germany-based Munich Re, insurers in the U.S. are only slowly acknowledging their vulnerability to climate change. Insurance companies have a natural — and critical — role in helping us prepare for the inevitable and mounting impacts of climate change, and hopefully in preventing its worst effects. Their financial exposure makes them uniquely credible messengers. Since they set our rates, they also have economic leverage to prompt changes in our behavior.

Yet just 10 percent of all insurers worldwide, and only two U.S. insurers, earned top ratings in climate change preparedness in 2014 from CERES, a non-profit that advocates for corporate sustainability. And the public appears largely unaware of the insurance industry’s vulnerability to climate change. But if insurance companies aren’t prepared to deal with increasing climate disasters, who will be left with the bill? You, me, and our fellow taxpayers.

The evidence is overwhelming of the risk unchecked climate change poses to insurance companies. The number of global natural catastrophes has risen at a harrowing rate, from an average of 39 disasters in the 1970s to an average of 136 in the first decade of this millennium.  The upward trend in global weather-related losses between 1970 and 2013 is unmistakable, as the following table from another insurance giant, Swiss Re, shows:

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There are, however, actions that can be taken at the state level to encourage the insurance industry to account for climate change. We need a concrete plan for recruiting the industry in the fight against climate change.

Here are some ideas for a Green Insurance Plan for Washington.

Like Gov. Jay Inslee’s recently announced Carbon Pollution Accountability Act, the premise of a Green Insurance Plan should be to use economic incentives to promote environmentally healthy behavior and slow global warming. In short, polluters should pay the costs they’ve been passing on to the rest of us, and green business innovators should be rewarded. Insurance companies can and should help make this happen. The state insurance commissioner, who holds significant sway over insurance companies at rate-setting time, can help ensure they do.

From an insurance perspective this makes sense, because carbon emissions increase the risk of insurance losses just like any other risky behavior. Insurance is an investment based on calculated risk. The insurance industry spreads risk over time, businesses and people. The precise time the risk will occur is unknown, but economic modeling permits insurance companies to set premiums that cover risks and still earn a return for investors. Riskier behavior eventually produces higher costs, so those creating more risk should pay higher rates.

Insurers can induce their customers to lower climate-related insurance risk by incentivizing risk-reducing behavior. This can be done most simply by adjusting premiums. Carbon-dependent businesses should pay higher premiums, and companies with relatively smaller carbon footprints should be rewarded.

These incentives don’t currently exist because insurance companies aren’t well-prepared for climate change. Climate simulation models point to rapidly building risk in the future in three weather conditions where Washington is particularly vulnerable.  Scientists expect a sixfold increase in coastal flooding by 2100. Intense rainfall days and high fire-risk periods are projected to increase by 35 to 40 percent from 1960 to 2020. Last year, the Oso landslide and the Carlton Complex fires demonstrated the toll these increased risks will take on our state.

Yet, according to a 2014 CERES report, half of property and casualty insurers don’t use climate change modeling to quantify risks caused by more frequent and intense weather catastrophes. 

To make climate change part of risk planning, insurance companies should incorporate climate risk into their underwriting policies. Washington Insurance Commissioner Mike Kreidler, as chairman of the climate change working group for the National Association of Insurance Commissioners, has led the states in calling for insurance companies to incorporate climate change into their risk models. Insurers must use climate change modeling in calculating risk and determining premiums, with full transparency for regulators like Commissioner Kreidler at rate-setting time.

This feature of a Green Insurance Plan would cause premiums to rise for carbon-intensive industries. At the same time, though, companies that adopt practices to reduce their carbon footprint would have lower insurance costs. Renewable energy and green construction companies would also be rewarded. “Green replacement policies” — which provide for renovation or rebuilding to higher standards of sustainability and for hybrid replacement vehicles in fleets — would provide an economic advantage.

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A wildfire in Central Washington last year/U.S. Forest Service

If we don’t adopt these policies, taxpayers will end up footing the bill for climate change. Some insurers have limited coverage or entirely withdrawn from catastrophe-prone markets like the Long Island, Virginia, and Florida coasts.  We could see this in our state in the future as some residents of Winthrop, Twisp or Wenatchee could encounter insurers reluctant to issue policies because of mounting fire risks. Ultimately, this merely shifts costs to taxpayers, as the Federal Emergency Management Agency and other types of public support are called upon to rebuild disaster victims’ homes and businesses. Smart planning based on environmental trend data would enable companies to avoid just pulling out of areas faced with higher climate risks.

Insurance commissioners must also think creatively about strategies that would induce insurers to adjust rates to account for their insured’s carbon emissions. There are at least two broad ways insurance commissioners can do this, using financial levers and through public pressure — the bully pulpit.

Insurance commissioners could give more favorable rate treatment to insurance companies whose policies charge higher premiums for the higher risks created by carbon polluters. For example, an office could have a policy that companies whose proposed plans adjust rates based on carbon emissions automatically qualify for a half percentage point bump in their rates.

Another option could be a green insurance premium fund into which all insurers operating in a state contribute. Companies in industries that historically have been carbon-intensive could apply to the fund for grants to defray their insurance premiums. Grant awards could be given based on the extent to which applicants’ carbon emissions beat a standard, such as the emission levels set in Inslee’s proposed Carbon Pollution Accountability Act.

A final element of a Green Insurance Plan should capitalize on the public advocacy function of the Office of Insurance Commissioner. As Kreidler has ably done, insurance commissioners must pressure insurance companies to incorporate climate change risk into all aspects of their business and demand that boards of directors hold the executive suite accountable for doing so.

The insurance commissioner also should publish an annual Green Insurance Scorecard. This would rate insurance companies on whether their business practices account for risks of climate change. A consumer scorecard would educate businesses and individuals shopping for insurance and pressure insurers that are slow to respond to the rapidly increasing risks we face. Would it interest you whether your insurer got an A or an F on its preparedness for climate-related disasters? What if you were a shareholder?

Weather and claims data make it abundantly clear that insurance companies have a tremendous amount at stake in the fight against climate change. Despite this, many need to be nudged to account for climate risk in their business practices and enter the public debate that so greatly affects their industry.  If more insurance companies don’t step up, taxpayers will be left holding the bag.  This is an outcome that our insurance commissioner and the rest of us must head off.


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