Managing Terrorism Risk Eric Brosius May 7 2007
Managing Terrorism Risk Eric Brosius May 7, 2007 1
It’s all about capacity! – US insured property is roughly $30 trillion – WC fatality exposure is roughly $30 trillion – US insurer surplus is less than $1 trillion What promises to pay can we make? – Insurance is based on the ability to write large numbers of uncorrelated risks 2
Managing catastrophe exposures – A catastrophe affects multiple risks, violating the condition that risks are uncorrelated. – To manage catastrophes, we use • Footprints of potential events • Detailed exposure data for the insured book • Realistic disaster scenarios and/or probabilistic modeling to project how event footprints will affect the book 3
Why is terrorism risk hard to insure? – It is not fortuitous; probabilistic methods may not apply – It is catastrophic, and footprints are hard to predict – We don’t know what geographic areas or segments of the economy may be targeted – Potential losses are huge (could be $trillions) – We cannot estimate prospective expected loss 4
Nuclear/biological/chemical/radiological (NBCR) events – Even harder to envision footprints – Generate even larger loss scenarios – More likely to be correlated with investment results – Reinsurance available only at “make me move” prices Destructive agency not as important as the size and nature of potential losses 5
Tools for managing terrorism risk – Underwriting (know what you write) – Exposure management (know how much you write and where) – Bear risk consciously – Mitigate loss where feasible Insurers have only partial control over acceptance of risk, especially for WC 6
Other sources of capacity – Traditional reinsurance • $6 -8 billion estimated conventional capacity – Capital Markets • Available at a price, but will take time to become meaningful – Government • Essential for the foreseeable future 7
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Terrorism risk management design principles – Promote economic security – Encourage private market solutions – Maintain loss mitigation incentives – Minimize administrative burden – Limit subsidization (e. g. , via surcharges) – Ask government to do what private market cannot 9
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