No Incentive to Lie: Irene & Insurance Industry

Hurricane Irene’s residue is
likely to include a confusing debate over whether insurers or property owners
are responsible for storm-caused water damage. There’s no lack of clarity,
however, over whether the insurance industry believes in climate change and its
ties to lethal weather: It does. As Bloomberg Businessweek reports  that the industry has absorbed many lessons
from Sept. 11 about anticipating risk. One is that the recent spate of weather
extremes is likely to continue — and the insurance market must reflect that.

Market, Politicians Going
Separate Ways on Climate Change: View

By the Editors  Bloomberg September  1, 2011

Hurricane Irene’s residue is
likely to include a confusing debate over whether insurers or property owners
are responsible for storm-caused water damage. There’s no lack of clarity,
however, over whether the insurance industry believes in climate change and its
ties to lethal weather: It does.

As Bloomberg Businessweek reports
in its Sept. 5 issue, the industry has absorbed many lessons from Sept. 11
about anticipating risk. One is that the recent spate of weather extremes is
likely to continue — and the insurance market must reflect that.

Interestingly, this puts the
industry at odds with a number of Republican candidates who have made
questioning climate change a not-insignificant part of their campaign strategy.
Rick Perry and Michele Bachmann dispute whether global warming is man-made.
Perry suggests that climate is affected by many variables, which scientists can
manipulate “so that they will have dollars rolling into their projects.” Mitt
Romney is on the fence. Only Jon Huntsman Jr. has declared definitively that he
trusts scientists on global warming.

Politicians have been known to dissemble
about risk because voters generally don’t like to hear bad news. The insurance
industry makes its money telling it to you straight — how long you’ll probably
live, what price your home will fetch, whether to repair or trade in your car.

Risk Models

For this reason, it’s worth
noting that insurers already factor climate change into their models for
measuring, pricing and distributing risk. Insurers have no incentive to lie. If
they are more scared than they should be in pricing risk, shareholders will
punish them. If they aren’t scared enough, nature will do the job.

No one can say for certain that
any single weather event flows from the warmer air caused by carbon emissions,
which in turn lead to more rainfall, floods and snowfall over some parts of the
planet, and more drought in other parts. But last year was the hottest on
record. Arctic ice is at record low levels. Regardless of what politicians say,
insurers must factor all this into premiums.

Vulnerable Areas

Swiss Re, the second-largest
reinsurer, is developing scenarios using probabilistic modeling to help
government officials cope. The reinsurer studied the effects of climate change
in vulnerable areas such as Samoa, Mali, Caribbean islands and Miami.

No matter which model it chose –
no change, moderate changes or extreme changes — Swiss Re concludes it’s
cheaper to adapt now than to sit and wait.

It recommends building codes that
require more water- and wind-proofing, zoning laws that prevent planting trees
close to buildings and power lines, redesigned beaches that absorb storm surge,
and restoration of wetlands.

Hurricane Irene, and the
estimated $5 billion to $7 billion in damage claims insurers now face, has been
swept up in this debate. Irene maintained hurricane strength farther north than
storms usually do — and dropped extraordinary amounts of rain. At the same
time, parts of the U.S. are experiencing record-high temperatures and dust-bowl
conditions. Houston hit an all-time high of 109 degrees Fahrenheit (43 degrees
Celsius) the same day Irene was roaring up the Eastern Seaboard.

Rising Seas

A storm with Irene’s fury will
only cause more damage in the future. Rising sea levels will allow storm surge
to penetrate farther inland. Americans pushing relentlessly toward the East and
West Coasts are putting themselves and their property in harm’s way.

If elected officials want to help
constituents prepare for disaster, they could fight for legislation to curb
carbon emissions, and they could keep people from building along coastlines.
Politicians have enjoyed enormous success calling scientists into question. The
market may not prove to be such an easy target.

Source: www.bloomberg.com