The baton passes on

At the ‘Island of Hope’, on December 4th, COP28 will showcase how risk capital markets can massively scale up funding for climate-vulnerable countries to create an essential pillar of Loss & Damage (L&D) architecture. It is expected to produce $75 billion of climate protection for Small Island Developing States (SIDS), Least Developed Countries (LDCs) and Vulnerable Twenty (V20) from $1 billion of loss and damage funding. 

Loss and damage in the international policy debate broadly refers to efforts to “avert, minimise and address loss and damage associated with climate change impacts, especially in developing countries that are particularly vulnerable to the adverse effects of climate change”, according to UNFCCC Decision 3/CP.18. This blog provides a backgrounder.

Some months ago - with the net-zero insurance alliance (#NZIA) having imploded - it almost seemed the insurance industry had abdicated an opportunity to own and address climate breakdown. Now this scorecard!

In a scenario where the fossil fuel industry was to stall, it could impair not only risk carriers but all those in the supply chain including intermediaries facilitating such a portfolio. The stakes are only getting higher with America now the world’s largest oil producer at 12.9 million barrels in 2023. A third of the world’s planned oil and gas expansion right up to 2050 will occur in the US, a recent report found. As a result, the scorecard of top insurers will worsen as their mouth-watering hydrocarbon affair intensifies. 

This coincides with private US insurers beating a retreat from the homeowners’ segment. A portfolio of 39 million homes as they steadily become uninsurable and will increasingly become a liability of the federal government as an insurer of last resort.

So, what is happening is that the greed for a meatier portfolio is drawing in the big insurers. As a consequence - we are witnessing the carving out of harmless homeowners harmed by the outcome of the same greed. All this manifests in wildfires, intensifying windstorms, floods, and sea-level rise.

Where is this headed? We are already bearing the brunt of a temperature rise of 1.5C from the threshold agreed at Paris. According to Dr. James Hansen taking into account feedback involving clouds, water vapour, snow cover and sea ice, ‘’equilibrium climate sensitivity’’ - the eventual warming produced by a doubling of CO2 in the atmosphere - is likely around 4.8C, rather than the IPCC’s best estimate of 3C. Much of what we insure might not be insurable past a 3C rise.

Ironically climate breakdown would deal a body blow to the fossil fuel industry, as well as the current format of insurance - both in terms of affordability and availability. Will parametric be the new avatar? Could insurance brokers possibly play a transformative role? Is any nimble player/s in sight to leverage such disruption? 

A beacon of hope

Cambridge Institute for Sustainability Leadership’s (CISL) new briefing - Risk sharing for Loss and Damage: Scaling up protection for the Global South offers a breakthrough in the design of the global architecture for L&D. Needless to mention that Global South’s vulnerabilities arise from the industrial and lifestyle related greenhouse gas (GHGs) emissions of Global North!

Members of Howden Climate Parametrics modeled the technical cost and financial protection that could be achieved by using some L&D funds to access international risk capital markets.

It would use the economic efficiency of risk capital markets, which can convert modest annual flows from donors into major contractual entitlements for vulnerable countries when disasters strike, now and through to 2050. 

The action plan proposes to protect all 30 small climate-vulnerable countries (population less than one million), from losing more than 10% of their GDP from climate shocks. It also advocated providing each L&D-eligible country with $10m of annual premium to protect their highest priority needs.

The smallest and most vulnerable countries risk losing over 100% of their GDP from extreme climate shocks next year, according to the findings, which underline the scale and severity of the risks faced by the Global South. Small Island Developing States (SIDS) and other vulnerable countries bear these overwhelming threats almost alone. This can be solved.

The report, which models L&D implementation, reveals these risks are insurable and proposes a solution using the power of (re)insurance and capital markets to dramatically scale up the impact of L&D funding. The modeling shows that the intolerable financial risks faced by this group of countries could be reduced to just 10% of GDP.

The research, with input from public and private leaders from the Global South and developed economies, also outlines an action plan for L&D implementation across 100 less-developed, climate-vulnerable countries. It proposes leveraging donor funding to unlock vast sums from (re)insurance and capital markets to provide guaranteed financial protection to exposed communities now, and through to at least 2050.  

Key findings 

The research quantified the losses faced by small, climate-vulnerable countries across the Pacific, Caribbean and the Indian Ocean. Today, these countries face foreseeable losses of between 50% and over 100% of annual GDP from extreme climate events, such as severe droughts, tropical cyclones and floods. By 2050 losses are set to grow, according to the report, between 10-15% due to climate change alone, approximately 0.5% per year.

• Despite the growing risks, modeling by the researchers revealed that these economies remain insurable. Under the proposed plan, an estimated $1 billion of donor-supported annual pure premium could protect all 30 of the world’s smallest and most climate-vulnerable countries with a population of less than one million from losing more than 10% of their GDP from climate shocks; through a risk-sharing mechanism. 
• Furthermore, despite growing risks from extreme climate events, the study reveals that this protection could be maintained through 2050 and beyond, providing these countries with the necessary financial security to plan with confidence, attract investment, and make more informed decisions around resilient development and climate change adaptation.
• In a second application of the analysis, the results illustrate how risk sharing can be scaled up to form a key pillar of the L&D solution for all L&D recipient countries. A donor-supported annual pure premium of $10m per country equates to approximately $25bn of financial protection, contractually guaranteed, across 100 countries. This provides, for each of these countries, significant pre-arranged finance protection to support their highest priority needs.  

All this is happening outside the ambit of traditional insurance. The format does not entail a transactional relationship always taken for granted. A broker facilitating an out-of-the-box solution. “The pure maths and dispassionate economics in the analysis are clear. Risk-sharing systems empower hard won Loss and Damage funds to provide structural financial security to the widest range of vulnerable countries”, says Rowan Douglas, CEO, Climate Risk and Resilience Howden.

As of now, the baton has moved away from insurers. Can this be inspiration enough for them to get back on track? Or is this a writing on the wall?

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