Insurance Markets and Climate Change

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There was a lot of talk More recently about climate change and financial markets. See, for example, Discussion By Ewelina Czapla and Thomas Wade in the Financial Stability Oversight Board report on climate-related financial risks. Yesterday, I participated in a discussion session on property insurance, accident insurance, and climate change. The key question was: What should P&C companies do in response to climate change?

Let’s start with what he shouldn’t do. Other than its physical footprint, the pollution and error protection industry should not be in the business of reducing emissions or mitigating systemic climate risks. A key feature of the climate change issue is that it makes absolutely no sense for a private actor to address greenhouse gas emissions; The costs are direct and immediate while the benefits are spread and spread across many actors. Tackling climate change really requires collective action like a carbon tax. A slightly different issue is mitigating the financial cost of climate-related floods or fires. If there are building standards or geographic decisions that affect future costs, it may make sense to include them in the contract.

From a first principles perspective, there are two other primary roles: pricing risk (policy premiums) and investment (building reserves against future losses). Strict and fair actuarial premiums that include floods, fires, and other hazards in every geographic location entirely send important signals about their unwillingness, the non-entitlement of certain building codes, and other manifestations of climate risk. Here, the industry will do people a favor by providing this information and the taxpayer by keeping it off the government tab (as opposed to lacking insurance and ending up getting disaster relief.) Unfortunately, the main obstacle to charging accurate premiums is the government itself, as Politicians work hard to prevent people from paying the real price for products and services.

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The second activity is investing. There have been some suggestions that insurance companies should not invest in fossil fuel companies, for example. But if climate change is a threat to fossil fuels, it makes no financial sense to invest in this sector; The natural need of the industry to earn competitive returns will direct the capital elsewhere.

In short, the basic principles of insurance are already the right tools for dealing with climate change.

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Of course, some climate change has already occurred, and torrential rains and floods remind us that flood insurance is no longer exclusive to those on the ocean front or in a flood zone for 100 years. New products and sales may be required to provide coverage that will allow the United States to adapt to changes that have already occurred.

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