Sovereign risk transfer is still a relatively new financial tool for the public sector. Benefits have been promoted mainly in the context of emerging economies, where development banks and donor agencies are most active and its applicability is most visible. However, transferring costs incurred by disasters from the public to the private sector is just as important in developed countries.
Sovereign risk transfer – what's that?
Simply put, it is an insurance policy for the government. Administrations on all levels (national, county, prefectural or city level) face contingent liabilities. These are uncertain future expenses, which arise if an unpredictable event such as a natural catastrophe, takes place. For instance, following a large earthquake or a typhoon, governments typically provide assistance to citizens, repair damaged infrastructure (roads, bridges, power lines, etc.), or clean up public spaces. This is expensive and puts public budgets under pressure. Through risk transfer, governments transfer some of their contingent liabilities to the private sector. Financial institutions, such as insurance companies, pay a part of the governments' expenses and reduce their ultimate spend. This speeds up the recovery of the population and economy.
A benefit for both national and local governments
In the past, we have seen plenty of progress in the Asia-Pacific region. Today, the Philippines partners with the World Bank and the insurance industry to provide emergency funding to those provinces most exposed to typhoons; Chinese provinces have entered into risk transfer agreements to protect farmers and the wider population against floods and other perils; and ASEAN is working on the implementation of a cross-country disaster risk financing scheme.
Developed countries in Asia-Pacific can also benefit from risk transfer: it provides national governments with easy access to money to finance expenses, which tend to exceed disaster reserves; and local governments are less dependent on the support from the federal administration.
We know that natural disasters can severely impact public finances of developed countries. For example, this was the case after the earthquake in 2011 in Tohoku, Japan, which resulted in uninsured losses of USD 191bn. Just recently, Cyclone Debbie caused uninsured losses of USD 1.2bn in Queensland and New South Wales, Australia.
Risk transfer provides relief in these situations. Insurance and reinsurance companies can stem parts of these expenses, limiting the burden on the public administration and reducing the economic and humanitarian setback. The regions would "bounce back" more quickly.
Insurance can provide relief
Sovereign risk transfer solutions should be seriously considered by all countries exposed to natural disasters, regardless of their level of economic development. While the motivation to implement risk transfer may differ between emerging and developed countries, in both cases it makes the population and the economy more resilient to disasters. Policymakers should feel encouraged to think about the benefits of such solutions and to reach out to relevant stakeholders in the private sector, such as insurance companies, for a more in-depth dialogue about their needs and applicable solutions.
Swiss Re Global Partnerships has been a thought leader in this field and has developed solutions across the globe to increase resilience. These solutions are always bespoke: we work hand in hand with stakeholders to identify their needs and structure and implement the right policies. Take a look yourself!
Category: Climate/natural disasters: Climate change, Disaster risk, Drought, Earthquakes, Floods/storms, Resilience