As businesses emerge from months of shutdown due to the coronavirus, insurers and reinsurers around the world work with governments to mitigate the economic impact of future pandemics. Special Section sponsored by Munich Re.
- Kate Smith
- August 2020
The Reinsurance Special Section is sponsored by Munich Re. Click on the microphone icon to listen to the Munich Re podcast.
- Largest Loss: Even with pandemic excluded from most business interruption policies, COVID-19 is expected to cost the insurance industry more than $200 billion.
- Global Response: With pandemic an “uninsurable” risk, insurers across the U.K., the European Union and the U.S. are partnering with governments to find solutions.
- Aligned Interests: Policyholders, governments and insurers must be aligned in their interests in order to create successful programs.
Stephen Catlin's mobile buzzed nonstop. It was early April, and he had just written a thought leadership piece on the need for a swift and coherent insurance industry response to pandemic.
Frustrated by the falling reputation of the industry and the “clumsy” comments and defensive posture of some insurers, the Convex CEO called on the insurance community to be proactive in finding a long-term solution to pandemic.
His message struck a chord.
“The phone was red-hot the minute that piece came out, with people saying, 'Thank God somebody came out and said something,'” Catlin said.
That was the germ of the U.K.'s Pandemic Re, an initiative chaired by Catlin to develop a public-private partnership solution for pandemic.
Similar projects are under way in the United States and the European Union, as insurers look to help governments create a backstop for future outbreaks.
“Our role in society is to identify needs of protection and make sure the demand for coverage can be addressed,” Renaud Guidée, group chief risk officer at Axa, said.
In June, the French Insurance Federation devised CATEX, a public-private partnership program in which private insurers would provide €2 billion of coverage annually for small businesses obligated to close.
At the same time, the German Insurance Association put together plans for a multibillion euro fund to address future business disruptions. In the United States, two initiatives were on the table—one introduced by New York Congresswoman Carolyn Maloney and the other created by industry trade groups—before Chubb floated a third option in July.
In events like these, speed and time are of the essence. What matters is to have as prompt a payout as possible to make sure that businesses can be resilient and thrive again. This is why everyone coalesced around the idea of a parametric payout.
“Generally, state-backed risk pools are an adequate way to tackle pandemic risks as the pandemic risk in its entirety is by far too large to be fully covered by the private (re)insurance market,” said Munich Re spokesperson Axel Rakette.
Rakette said these pools should focus on nondamage business interruption coverage for small and medium businesses.
So far, many of the efforts do. With pandemic excluded under most insurance policies, the months-long lockdowns have hit small businesses especially hard. According to JP Morgan Chase, the median small businesses holds a 27-day cash buffer in reserve. Even with pandemic largely excluded from business interruption coverage, COVID-19 is the largest-ever loss for the industry. According to Lloyd's, the insurance sector is expected to pay $107 billion in pandemic-related claims while simultaneously watching its global assets drop by $96 billion, bringing the total loss to $203 billion.
“While we cannot rewrite history, we can work together to underwrite a better future—and we should start immediately,” David Priebe, executive chairman of Guy Carpenter, said. “Pandemics have traditionally suffered from a panic-neglect cycle. Quiet periods see no action, early warnings of an outbreak tend to be overlooked, significant response and funding are late and uncoordinated and valuable lessons from the crisis are not institutionalized.
“One institutionalized lesson to learn right now is that we can boost our economic resilience by forging a meaningful pandemic insurance system. Doing so will require shared action from the insurance sector, the federal government and policyholders.”
It also will require a clear understanding of what the insurance industry can and cannot do to help.
“We need to communicate better than we have to governments and to the man on the street that there are certain losses, particularly those that are global and systemic in nature, which are outside the ability of the insurance industry to pay,” Catlin said. “Not because we don't want to pay them, but because we don't have the capital.
“The total capital of the P/C marketplace is approximately $900 billion. When you think about the financial consequences of this shutdown, $900 billion is a pebble on the beach. At the very best, all we could do is be the very first loss for governments.”
Catlin has spent more than 45 years in the insurance industry, and only a handful of times has he felt momentum like this. In the aftermath of the thought leadership piece, he said, leaders from all segments of the industry were quick to join the effort that has become known as Pandemic Re.
Catlin pulled together a steering group of industry heavyweights for the initiative—Pool Re CEO Julian Enoizi, former Aviva CEO Maurice Tulloch, RSA CEO Stephen Hester, Willis Re CEO James Kent, Nick Frankland, UK CEO of Reinsurance Solutions for Aon, and James Nash, CEO International for Guy Carpenter.
“I told everyone, if you're going to get involved in this, 1) it's pro bono, and 2) you've got to wear an industry hat, not a corporate hat,” Catlin said. “Those were the conditions.”
The steering group established six working groups supported by more than 50 volunteers from across the industry. An additional 65 volunteers also offered to help.
“It built a momentum of its own,” Catlin said. “Every now and again there's a moment in time when this could happen. It's when the bridge is burning and people collectively get really concerned. Then all of a sudden, people think, 'We need to sort this out as an industry. Let's take off our corporate hats and work together to sort things out.'
“After 9/11 it happened. It happened with Equitas in the Lloyd's market. I think it's a realization that we're in trouble if we don't do something. And we have damaged our reputation as an industry, which we need to fix. You can't fix that with one business. The only way the industry fixes that is collectively. So I think there was an underlying common desire to do something.”
Providing a solution that addresses the small-to-medium enterprise (SME) segment is critical for Pandemic Re.
“There's a recognition now—and it's always been the case—that 70% of the economy is SME. Its core, its foundation, is SME. If you wipe out the SME industry, it means the economic recovery is slower,” Catlin said. “When you think about the economic consequences to the world, finding mechanisms for governments to fund their SME markets under these circumstances—that in itself, in my view, is significant added value.
“If we were to ignore SME in what we're offering to government, we wouldn't really be solving the problem at all. We would like to have a holistic solution that would include all types of businesses. But you're not adding value to the government if you don't deal with one of its biggest challenges.”
While Pandemic Re is starting with a blank slate, Catlin said it seems logical to consider piggybacking on Pool Re, the U.K.'s terrorist pool.
“There is £6.6 billion of fund created by Pool Re, which is sitting there doing nothing, other than actually being available for a terrorist event,” Catlin said. “To my way of thinking, that goes against the principles of insurance, which is you expose capital to lots of different types of losses, not just one. So it would seem logical to consider whether those funds could be applied elsewhere. And then if you go down that road, why wouldn't you have a Pool Re holding company, where Pool Re is a subsidiary, and maybe Pan Re, and maybe Cyber Re or down the line Climate Re.”
Liz Foster, nonexecutive director of The Society of Insurance Broking at the Chartered Insurance Institute, said an umbrella organization for extreme risks makes sense. She and James York, CEO of Insurtech UK, have spearheaded Totus Re with the aim of finding a solution for “red zone risks” on the U.K.'s National Risk Register.
“We have Flood Re, which was created retrospectively, like Pool Re and now Pandemic Re, to support communities where insurance wasn't in place,” Foster said. “Totus Re is proactive. We're looking at those red zone risks in the National Risk Register and saying, 'Why wait for these to impact our society?'
“We see Totus Re as a beating heart, for want of a better expression, at the center with cells radiating from it. Each of those cells would hold one of these unique risks. Pandemic Re, Pool Re, Flood Re, and then Cyber Re, potentially, etc. Each of those cells would attract specialists in its own right. What they would have in common is the format, the setup, the forethought, and the support base of insurance and the government.”
When an event hits, Foster said, funds could be drawn from any of the cells.
“You have this total funding which, by government legislation, would be enabled to be used to meet any of the events,” Foster said. “The U.K. insurance industry is a world leader in the market. We're well-versed in distributing funds and dealing with claims. But at the moment, we're on the back foot because pandemic wasn't a risk that was widely covered.
“Knowing that we have a National Risk Register which has categorized some of these risks into a red zone makes it such an important thing to address.”
Lloyd's also has sought to address such risks. In July it announced three insurance and reinsurance frameworks—called ReStart, Recover Re and Black Swan Re—to tackle future COVID-19 losses and other catastrophic events. Recover Re and Black Swan Re require partnership between the insurance industry and government.
Recover Re is a proposed 'after the event' insurance product framework for providing nondamage business interruption coverage. It could be implemented in any country where the government has the resources and industry commitment to support it, Lloyd's said.
Black Swan Re is a reinsurance framework for a government and industry partnership that could better protect customers from the devastating and long-term impacts of systemic catastrophic events—from another pandemic, or global supply chain disruption, to the interruption of critical infrastructure or utilities. The framework would provide reinsurance for commercial nondamage business interruption cover for black swan events through industry pooled capital, backed by a government guarantee to pay out if ever the pool had insufficient funds.
ReStart is a potential new insurance solution that would offer business coverage for future waves of COVID-19 by pooling capacity from several Lloyd's market participants.
While we cannot rewrite history, we can work together to underwrite a better future—and we should start immediately.
Catlin wasn't the only executive to use his platform to rally support. Axa CEO Thomas Buberl also took to the French press in April to encourage his counterparts to work with governments to develop risk pooling schemes.
In the weeks following, French insurers worked to create a new program for exceptional catastrophes, CATEX (which is unrelated to the U.S. platform by the same name). Under the proposed scheme, insurers would provide €2 billion of coverage per year for small businesses obligated to close due to government mandate, with the government stepping in beyond that via state reinsurer CCR. The program is not limited to pandemic shutdowns.
“The benefit of the CATEX regime that has been proposed by the French industry is that it would indeed have a scope for categories of shutdown enacted by public authorities following either a pandemic, a riot, social unrest, or in relation to terrorism or a natural catastrophe,” Axa's Guidée said. “You would have clear coverage for all of these triggers, so what we've been living through would fall in that scope.”
The coverage would be built into either fire coverage, which is mandated for businesses, or business interruption coverage. And it would have a parametric element to it.
“What is to be parametric for sure is the payout, which should be paid as a pre-defined lump sum,” Guidée said. “There has been a consensus among all stakeholders that if you want to have an indemnity that is tailored in a very granular fashion to the very euro of losses, it will take ages. You would need an army of accountants to go through the books of each and every impacted business. That's not practical.
“In events like these, speed and time are of the essence. What matters is to have as prompt a payout as possible to make sure that businesses can be resilient and thrive again. This is why everyone coalesced around the idea of a lump-sum payout to make things smoother and simpler in terms of implementation and the speed of the payout.”
In Germany, a German Insurance Association working group also developed a private-public model that would mitigate future economic losses from pandemic “by partly replacing governmental ad hoc aid in case of a limited event.”
The German Insurance Association examined two possible models in a research paper released in June. One is a “pure capital collecting entity that builds up a capital stock over time with flat-rate levies and pays (largely flat-rate) benefits in the event of an infection wave.” The capital size would be determined by how many days or weeks the system could provide aid before reserves are exhausted.
The second model is a “more risk-oriented system” based on the likelihood of a loss. Businesses pay in for a specified loss to be compensated, so each business decides for itself on the amount of payout it would like to get in the event of “an infection wave,” the paper said.
Businesses would pay a fee to a capital collecting entity that is based on a so-called return period, the paper said. Beneficiaries would be businesses that contributed to the capital stock of the system and that have been closed for general prevention like sanitary containment measures.
As with the French program, one of the key features would be a quick payout facilitated by the insurance industry.
“Our German colleagues haven't yet settled on something parametric, but they have found it would be very cumbersome and practically impossible to have accountants reviewing the bookkeeping of all these clients at the same time,” Guidée said. “So I would say lump-sum payout will be done out of pragmatism.”
The U.S. response originally had fallen into two buckets—one driven by government, the other driven by industry groups. Chubb blended elements of both initiatives to create a third option, which it announced last month.
In late May, Congresswoman Maloney introduced the Pandemic Risk Insurance Act of 2020 (PRIA), which would create the Pandemic Risk Reinsurance Program modeled on the Terrorism Risk Insurance Act.
Membership in the program would be voluntary, but participating carriers would be required to offer pandemic coverage in all their business interruption policies. The federal backstop will be triggered once a covered public health emergency accounts for aggregate business interruption losses of $250 million. The PRRP would cover 95% of additional losses up to $500 billion in a single year, with the remaining 5% spread among the insurers. There is a $750 billion cap on federal compensation, with the Treasury secretary authorized to determine pro-rata share above that amount.
“Once that $750 billion ceiling is reached, it appears that the industry is back on the hook, or at least Treasury is supposed to examine and make that determination,” Eric Dinallo, insurance regulatory chair at Debevoise & Plimpton, told AMBestTV. “I would say that the industry is justifiably nervous or worried about that part of the proposal. There may be a debate about whether they go to a trillion-dollar ceiling to push them further away from having to be back on the hook, so to speak.”
Insurers are also concerned about the broadening of coverage to all policies.
“An issue cited by insurers is that the proposed PRIA bill to broaden coverage in all existing insurance policies to cover pandemics would make it difficult, if not impossible for carriers to continue to offer current limits, even with a substantial governmental backstop, as pandemic coverage does not align with current property policy limits or claims practices,” Guy Carpenter's Priebe said.
Industry trade groups countered with an alternative proposal—the Business Continuity Protection Program. Devised by the National Association of Mutual Insurance Companies, the American Property Casualty Insurance Association and the Independent Insurance Agents & Brokers of America, the BCPP would provide business revenue replacement assistance that would reimburse up to 80% of payroll, benefits, and expenses for three months.
Businesses would purchase their desired level of revenue replacement assistance through state-regulated insurance entities. Participation would be voluntary, and the BCPP would be able to purchase private reinsurance.
“The BCPP proposal suggests a stand-alone pandemic policy would be a more effective approach to address the needs of business,” Priebe said. “The BCPP would provide for fast claims payments, as relief would be automatically triggered and immediately paid following a presidential viral emergency declaration (i.e., no advance documentation or claims adjustment would be required). However, some insureds have voiced a concern that the BCPP approach is too limited, as it does not explicitly address event cancellation and other coverages included in PRIA.”
The BCPP more closely follows the National Flood Insurance Program, in that insurers would get businesses to buy into it but the risk would fall solely on the government.
“Perhaps the answer lies somewhere in the middle, and we appreciate the carriers coming forward with a response,” Priebe said. “Ultimately, the industry will need to come together with a unified response to address pandemic risk.
“If we create the right economic incentives for insurers, policyholders and the government, insurance can serve its traditional function of mitigating risk. Over time, the right risk program can spur new technologies, ways of working, services, insurance products and processes to ultimately chip away at the enormous losses associated with pandemics. That, in turn, can help make pandemic risk more manageable and enable our economy to build the necessary resilience it needs for the future.”
Chubb's Pandemic Business Interruption Program addresses the different needs of small and large businesses. It includes a $750 billion program for small businesses that provides an immediate cash infusion when a pandemic is declared and a separate voluntary $400 billion program for medium and large businesses, with losses paid through the industry's traditional claims-adjudication process.
“Both depend on the federal government assuming a substantial percentage of the risk, through direct U.S. Treasury funding to insurers for the small-business program, and through a newly created government-run reinsurance entity for medium- and large-business losses,” Chubb said in a statement.
The small-business program contains parametric triggers and aims to keep people employed by covering up to three months of payroll and operating expenses. In order to maximize opt-in, it requires all insurers that write business insurance to offer the program, and businesses that decline coverage would be required to acknowledge they have no coverage for pandemic business losses and are ineligible for the government benefits program. The insurance industry would pay up to $15 billion of first-dollar losses the first year, with that amount rising to $30 billion over 20 years. The program has an aggregate limit of $750 billion.
For medium and large businesses, Chubb proposed an indemnity-based program where insurers and government are paid an appropriate risk-adjusted rate for pandemic coverage. Insurers would retain a portion of the risk and cede the rest to a government reinsurance entity, which it refers to as Pandemic Re. Participation would be voluntary both for insurers and businesses, and policies would have a $50 million limit. Insurers would collect premiums and pay claims, drawing down on a letter of credit from Pandemic Re for the government's portion. The total aggregate limit would be $400 billion. The industry's share would be $15 billion the first year, rising to $30 billion by year 10.
The Chubb program excludes COVID-19 losses and would take effect in January 2021.