Set Aside 150 Years for P/C Insurers to Pay COVID-19 Business Interruption Losses

October 30, 2020 by L.S. Howard

The world’s property/casualty insurers would have to collect business interruption insurance premiums for 150 years in order to absorb the estimated $4.5 trillion global output loss inflicted by COVID-19 and its handling in 2020.

P/C insurers currently collect $1.6 trillion in annual premiums for all policies, with just $30 billion of that total for business interruption policies, which represent less than 2 percent of the global P/C insurance market, according to a report from the Geneva Association titled “An Investigation into the Insurability of Pandemic Risk.”

“Even those who anticipated the scenario of a global pandemic did not fathom the nature and scale of government decisions taken around the world to slow infections: wide-ranging shutdown measures that brought economies to a standstill,” says a forward to the report signed by the Geneva Association’s Managing Director Jad Ariss.

Such unfathomability explains the insurance situation.

“From an insurance perspective, this type of government response is neither predictable nor modellable. That is one of the reasons why pandemic risk was not included in most business interruption policies,” Ariss continues.

COVID-19 has exposed massive a protection gap in the area of business continuity risk. Less than 1 percent of the estimated $4.5 trillion global pandemic-induced GDP loss for 2020 (according to The World Bank) will be covered by business interruption insurance, which is generally intended for and triggered only by physical damage.

As a consequence, the report comes to the conclusion that public-private solutions will be needed to close the protection gap for the business interruption aspect of pandemic risk, which is “uninsurable.”

“[P]andemic-induced business losses defy basic, widely-accepted criteria for insurability. Unlike risks like natural catastrophes, they occur on a global scale and are not diversifiable,” commented Kai-Uwe Schanz, the association’s head of Research & Foresight, in a statement accompanying the report.

“Governments and insurers urgently need to figure out the right partnership modalities to prepare for – and respond to – extreme risks like pandemics,” Schanz added.

Criteria of Uninsurability

The report applies the two most relevant criteria of insurability to pandemic business interruption risk, which show that the risk is uninsurable:

First, the losses are neither random nor independent. Even though pandemics are naturally occurring phenomena, policy decisions to lock entire economies are deliberate and intentional, which means that expected loss amounts and risk loadings cannot be set, the report explains. Further, no historical data exists for the governmental policy responses seen during COVID-19, it continues. “Furthermore, the strong correlation among individual risks renders efficient risk pooling and diversification impossible.”

Second, the maximum possible loss is not manageable from the point of view of insurers’ solvency.“The uncontrollable aggregation of losses could be ruinous to the risk pool and, ultimately, to the insurance industry as a whole. This in turn could lead to significantly further financial stability risks across the wider economy,” the report says.

There are differences between pandemic and other catastrophic risk, in terms of the scope for global diversification.

“Pandemics are, by definition, not diversifiable as they occur on a very wide or even global scale (as opposed to epidemics which are more locally concentrated),” the report adds. “Some other risks such as terrorism or natural catastrophes are diversifiable on a global level and routinely transferred via re/insurance or Alternative Risk Transfer (ART) instruments.” Such disasters affect a limited number of policyholders for a limited period of time.

COVID-19 illustrates that economic losses caused by extreme pandemics and their handling by public authorities are neither locally nor globally independent and, therefore, pandemic business continuity risks are uninsurable, the authors contend.

Insurable Parts of Pandemic Risk

On the other hand, the authors find that life and health risks for a pandemic resembling COVID-19 are insurable because they are generally non-systemic, modellable and insurable. “Excess mortality risk is modellable based on a wealth of historical data. In addition, increased mortality risk is (partially) offset by reduced longevity,” according to this section of the report.

“For health insurers, there is a ‘natural’ limit to claims given the finite capacity of healthcare systems and temporarily reduced expenditure on non-pandemic-related procedures. Hence, there are generally no exclusions for pandemics or other common causes of extreme mortality and health events.”

The GA report suggests that public and private sector policymakers should resist the temptation to measure pandemic risk by a single yardstick. It also recommends they maintain a clear differentiation between uninsurable and insurable pandemic variations as well as a distinction from other catastrophic risks such as natural disasters, cyber and terrorism.

“Systemic pandemic economic and business continuity risk cannot be treated in the same way as other (catastrophic) risks. Government and society must accept this distinction when setting their expectations for the role of the insurance industry in addressing this issue in future,” said the report.

The Geneva Association is global organization of insurance and reinsurance chief executive officers, which acts as an industry think tank. GA announced that it will publish another report titled “Public- and Private-Sector Solutions to Pandemic Risk” later in 2020.

Source: Geneva Association

*This story ran previously in our sister publication Insurance Journal.