A RISK POOLING Kehinde Balogun, Shaily Vyas, Simon Wagner, and Soenke Kreft - Munich Climate Insurance Initiative
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logun,
Pap er S er ie s MAY 2021
Kehinde Ba s,
Shaily Vya
ner,
Simon Wag
e K re f t
and Soenk
D is cu ss io n
F LO O D S :
M A N AG I N G P I N G
DEV E L O
P O O L I N G
A RISK K
M E W O R
F RA
Managing Floods: Developing a Risk Pooling Framework
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Published 31 May 2021
Authors: Kehinde Balogun, Shaily Vyas, Simon Wagner, and Soenke Kreft
Contributing Authors: Michael Zissener, Pillay Kamleshan, Pillay Srinivasan, and Mohanlal Shanice
Editor: Rachael Hansen
Munich Climate Insurance Initiative 2021
The research presented herein has been commissioned by the Munich Climate Insurance Initiative
(MCII) and funded through the University of KwaZulu-Natal, on behalf of the Canadian International
Development Research Centre (IDRC). The views and opinions expressed in this paper are those of the
authors and do not necessarily reflect the understanding of MCII or the University of KwaZulu-Natal, or
the policy and position of the IDRC.
2
Published 31 May 2021
Abstract
This paper presents success criteria and challenges for developing a flood risk pool to manage flood
risks. It demonstrates how governments can better protect at risk populations by developing and
maintaining flood risk pools. To establish success criteria, existing national flood risk pools with
national level insights (Belgium, France, Switzerland, United Kingdom (UK) and the United States (U.S))
were analyzed. The paper was developed by:
1) Conducting desk research on the topic of flood risk, flood insurance, climate risk insurance, risk pools
and flood risk management. This enabled the understanding of global flood impacts, including climate
change as a driver, to ascertain the need and status quo of flood insurance as a risk transfer measure.
2) Collecting relevant literature to establish best practices and challenges in all aspects of climate risk
insurance and flood risk pools. By building on and synthesizing existing literature, insight was gained
on how risk pools can reduce flood risks in an integrative manner. Subsequently, three key success
criteria were extracted from literature on various types of insurance schemes. This process also
facilitated the development of three guiding questions underlying each success criteria.
3) Analyzing of additional literature, and selecting five case studies to further allow the parsing out of
success criteria (see Annex II).
4) Lastly, findings are presented under each success criterion to narrow the broad topic of flood
insurance and flood risk pools, resulting in a summarized recommendation for establishing and
maintaining successful flood risk pools. Thus, the paper contributes to existing literature and provides
further insights for governments, as well as practitioners seeking to develop flood risk pools.
This paper forms part of the project Investigating the feasibility of Municipal Risk Pooling as an
Adaptation Finance measure (MuRP). The project aims to investigate the feasibility of flood risk pooling
at the municipal level in the Western Cape Province of South Africa. The lead organization of the project
is the University of KwaZulu-Natal with endorsement from the Western Cape Government. The project
also includes the following partner organizations: the Munich Climate Insurance Initiative (Germany),
Center for International Climate Research (Norway), Germanwatch e.V. (Germany) and
SouthSouthNorth (South Africa).
The authors of the paper will like to thank the International Development Research Centre (IDRC) for
their generous financial support of the MURP project.
3
Published 31 May 2021Content
Abbreviations ............................................................................................................................................................... 5
Executive Summary .................................................................................................................................................... 7
1. Introduction ...................................................................................................................................................... 13
2. Perspectives on Flood Risk and Integrated Approaches ......................................................................... 15
2.1 Flood insurance and challenges.......................................................................................................... 18
3. The Role of Insurance in Flood Risk Pools ....................................................................................................... 19
3.1 Risk Layering Approach for Flood Risk Sharing and Transfer ............................................................... 20
4. Aggregating Success Factors for Risk Pools ............................................................................................... 22
4.1 Creating Success Criteria for Case Study Analysis .................................................................................. 23
5. Findings and Lessons Learned ...................................................................................................................... 25
5.1 Designing a Smart Flood Risk Pool for Functionality and Sustainability.................................... 25
6. Concluding Remarks ....................................................................................................................................... 30
References.............................................................................................................................................................. 33
Annex I..................................................................................................................................................................... 46
Annex II ................................................................................................................................................................... 47
4
Published 31 May 2021Abbreviations
ABI Association of British Insurers
ART Alternative Risk Transfer
Defra Department for Environment, Food and Rural Affairs
CatNat Catastrophes Naturelles
CCR Caisse Centrale de Reassurance
CHF Confoederatio Helvetica Franc/Swiss Francs
CRED Centre for Research on the Epidemiology of Disasters
CRI Climate Risk Insurance
EEA European Environment Agency
EENIP Extreme El Niño Insurance Product
EM-DAT Emergency Events Database
FAO Food and Agriculture Organization of the United Nations
FEMA Federal Emergency Management Agency
FOPI Federal Office of Private Insurance
GUSTAVO Geneva, Uri, Schwyz, Ticino, Appenzell Innerrhoden, Valais and Obwalden
HFIAA Homeowner Flood Insurance Affordability Act
ICRM Integrated Climate Risk Management
IFRM Integrated Flood Risk Management
IPCC Intergovernmental Panel on Climate Change
KGV Kantonale Gebaeuderversicherung
5
Published 31 May 2021NFIP National Flood Insurance Program
OCED Organisation for Economic Co-operation and Development
PPRI Community-Based Plans
SFHA Special Flood Hazard Area
U.K. United Kingdom
UNICEF United Nations Children's Fund is a United Nations
UNISDR United Nations International Strategy for Disaster Reduction
UNOCHA United Nations Office for the Coordination of Humanitarian Affairs
US United States
WHO World Health Organization
WMO World Meteorological Organization
WN Waarborg Natuurampen
WYO Write Your Own
6
Published 31 May 2021Executive Summary
From 1998 to 2017, approximately US$ 3.47 trillion was lost in assets due to extreme weather events. 1
While in 2020 alone, the global economic cost of extreme weather events reached US$ 215 billion, a
significant increase in the socio-economic cost of disasters was linked to climate change in the last
decade. 2 Floods, in particular, have been recorded among the highest-ranking climate-related events
with increasing impacts on society. These rising flood damages and losses challenge governments to
develop a comprehensive risk management approach aimed at reducing loss of lives and public assets,
and to minimize fiscal and macroeconomic consequences 3 4 . In recent decades, the Integrated Flood
Risk Management (IFRM) approach has emerged. It combines structural measures, such as dams and
dykes, with non-structural measures, such as land-use planning policies. IFRM is a multi-stakeholder
approach that strategically combines risk reduction measures with activities necessary to respond and
recover from potential flood impacts. It has been increasingly recognized that the insurance industry
has an important role in IFRM by contributing to limiting the likelihood of unexpected losses. 5 .
Insurance is a legally binding financial instrument contract used to transfer economic flood losses from
individuals or governments to insurers or capital markets. 6
Thus, the objective of this paper is to understand how governments in flood prone countries can
successfully facilitate affordable flood insurance, with risk-reflective costing that includes low-income
populations. It essentially asks how flood risk pool design and agreements can help reduce flood
burden on a government and its population, while ensuring that the necessary flood risk information
of the different at-risk individuals are fully known by the insurers.
To answer this question, the following sub-questions need to be considered:
a) Why should governments consider enhancing and expanding their flood risk strategies to
include risk transfer instrument like insurance?
b) What are the benefits and challenges of flood insurance in reducing flood risks?
1 4
McCarthy, 2019 Seifert-Dähnn, 2017
2 5
Holder, 2019 Crichton, 2008; Le Quesne, 2017
3 6
Fiscal and macroeconomic consequences can be considered as Prettenthaler et al., 2017; Ramm & Balogun, 2018; Meenan et al.,
flood damages to significant parts of the infrastructure and 2019; MCII, 2020
productive capacity in a country or a sector and results in lower
tax revenue and high rebuilding cost.
7
Published 31 May 2021c) How can flood insurance enable governments to pool their risks at an affordable price to cover
all population?
d) What governance structure is best suited for flood risk pooling to ensure risk reduction that
promotes flood resilience investment?
The paper answers these questions by using lessons learned extracted from national flood risk pools
from Belgium, France, Switzerland, the United Kingdom (U.K.) and the United States (U.S.).
At the national level, the insurance industry can act as a risk carrier 7 that allows governments to build
shared financial reserves, and transfer excess risk to reinsurers or financial markets. 8 In particular, flood
insurance provides this benefit as a disaster risk financiing instrument used to transfer risk of economic
losses from governments to insurers. 9 It does so by pricing flood risks at a cost (premium) reflective of
risk levels to incentivize risk reduction, as well as redistributing risk and responsibility away from
governments to risk pool entities. 10 Considering insurance as part of flood adaptation strategy can
facilitate stronger partnerships across public and private sectors that invest more in risk reduction
measures, and financially assists affected populations. 11
Risk pooling entities are mutual organizations usually used in modern insurance wherein individuals,
institutions and companies over a wider geographic area form a pool that protects its members against
catastrophic floods losses. 12 For insurers, unforeseen and infrequent large scale floods can be
devastating for a single company. 13 Thus, flood risk pools allow insurers to benefit from capital, data
and knowledge resources of an insurance market. 14 Intergovernmental risk pools (IRPs) operate under
the same general principle, except that they are not-for-profit and made up of public entities, such as
government agencies, school districts, districts governments and municipalities. Thus, IRPs provide
alternative risk financing and transfer mechanisms to their members through self-funding, where flood
risks are underwritten with contributions (premiums), to share losses and expenses in an agreed ratio. 15.
Government agencies form a pool with the aim to provide flood insurance coverage to include low-
income vulnerable populations. Thus, the extent to which insurers can assist, depends on flood
7
Risk carriers can be insurance and reinsurance 10
Thistlethwaite et al. 2020
companies, insurance pools, pension funds and any 11
OECD, 2016
corporation or group of corporations that accepts risks for 12
OECD, 2016; Reichel & Schmeiser, 2018; Broberg, 2019
a payment usually called a premium (Berliner, 1985). 13
8
Broberg, 2019
World Bank, 2017 14
Reichel & Schmeiser, 2018
9
Kreft & Köhler, 2019 15
Doucette, 2002
8
Published 31 May 2021insurance cover agreement, government regulations and catastrophe modelling capabilities of in-
country insurers.
Key outcomes of the paper
The three criteria in the table below were identified from synthesized literature as key success factors
that leads to effectively establishing and sustaining national flood risk pools.
The paper reveals that diversity and similarity of risk pool designs are based on flood risk types and
national values, such as equity. That is, values have a higher ratio in determining the structure of the
pool in terms of offering mandatory or voluntary flood insurance, including the level of subsidy 16
provided. At the same time, the technical design and functionality of the pools are also influenced by
risk levels and premium cost. For example, obligatory implementation of risk reduction measures
linked to flood insurance in countries like Belgium and the United States contributes to reduction in
premium cost over time. Across all case studies, the governments’ objective is to provide affordable
flood risk coverage.
16
Subsidies is the provision of financial resources to the insurer insurance this is the only intervention that can reduce the price
in order to meet or reduce the costs the insurer or purchasers of of insurance to zero for the insured (DFID, 2016).
9
Published 31 May 2021Moreover, higher market penetration rates observed in some case studies were directly linked to access
strategies such as bundling or combining flood insurance products with mandatory fire insurance 17
coverage. The paper found that regardless of the pool structure and ownership, affordability of the
flood insurance is an essential component in designing, operating, and sustaining the pools. Thus,
flood insurance cost is reduced either through cost-sharing or premium tax credit subsidies.
The paper especially highlights the significance of having an adaptable funding and regulatory
framework that ensures the sustainability of the pool as flood impacts increase. Hence at the most basic
level, governments play an essential role in enabling the establishment and adaptability of pools,
regardless of the level of functional responsibility. Subsequently, there is need to structure the pools in
a manner that generates self-sustaining finances including its ability to access capital markets in the
case of large-scale and widespread flood impacts. The paper recommends that a well-designed flood
risk pool should include a risk-layering approach to manage varying levels of flood risks. Sustaining the
pools requires ensuring equity among members, in terms of capacity to pay premium and contribution
to the risks. National flood risk pools should also extend coverage to low-income populations most
vulnerable to flood impacts.
This paper does not claim to have an exhaustive list of all success criteria for national flood risk pools.
Rather, it selects five flood risk pools to understand their success criteria and challenges to sustaining
the pools. Although beyond the scope of this paper, the paper suggests further investigation to
understand how index and indemnity insurance can complement each other within a flood risk pool.
The paper highlights that disaster funds can take months or even years before approved funding is
enabled for flood response from the national to the local level. Index insurance can assist sub-national
entities to accelerate finance to households. Thus, this paper recommends further research on the role
of index insurance for sub-national entities within pools.
17
Fire insurance are policies offered by insurance companies to by fire both from natural peril and manmade events (Cassidy,
cover a wide range of properties against material damage caused 2014)
10
Published 31 May 202111 Published 31 May 2021
What to expect moving forward
This paper is intended to contribute to policies and practices of climate risk insurance, disaster risk
financing strategies and flood risk management. It does so by answering the questions asked above.
The paper presents how public authorities and the insurance industry can effectively co-design an
inclusive flood risk pool and ensure sustainability. To understand these partnerships, the paper
examines how flood insurance and flood risk pools can be used to optimize flood risk management.
The paper is structured in 6 sections: The following section (1) provides evidence on the current and
future flood risks.
Section 2 discusses integrated flood risk management and challenges of flood insurance. Section 3
highlights the role of insurance in flood pools and the need for a risk layering approach. Section 4
provides an overview of the aggregation and selection process of the success criteria and guiding
questions. Thereafter, it presents findings from the case studies analyses and lessons learned. Finally,
section 5 summarizes the findings from the analysis and provides recommendations on successfully
establishing and improving national flood risk pools in an inclusive manner.
12
Published 31 May 20211. Introduction
For centuries, floods have been and continue to be the most commonly occurring disasters with the
highest and most widely distributed global impacts on lives and properties. 18 Flooding is known to be
the overflow of a body of water, frequently caused by heavy rainfall combined with reduced ability of
an area to retain water. 19 Floods can be classified as river floods, flash floods, urban floods, pluvial
(heavy rain) floods, sewer floods, coastal floods and glacial lake outburst floods or a combination of
one or more of these processes. 20 River flooding is the most common type of flood, incurring
approximately US$ 542 million in damage, followed by flash floods at US$ 59 million between the years
1949 – 2013. 21 According to Douben (2006) and Kundzewicz et al. (2014), heavy precipitation accounts
for about 65 per cent of river floods, while in the northern latitude regions covered by snow, floods
materialize as a combination of snowmelt and heavy precipitation. 22
Thus, all floods are not equal in terms of cause and impacts. 23 As such, there are differences in flood
risks from diverse geographical locations on various national levels. This is a result of experiences in
balancing measures with the understanding of the source and magnitude of the flood (hazard), the
number of people and the value of assets potentially affected by flooding (exposure), as well as the
economic, social, demographic, cultural, institutional and governance capacity (vulnerability) to cope
with floods. 24 . Hence, actual flood risk has a significant dependency on the socio-economic factors of
vulnerability, including population growth and economic development of each area. 25
According to UNDRR (2018), floods recorded between 1998 -2017 ranked highest in frequency amongst
disasters and impacted over 2 billion people worldwide (see figure 1 below). The figure shows a
fluctuating increase in flood events since 1970 – 2006, and a gradual decline in the number of flooding
events since 2006. This is indicative of the paradigm shift from the traditional hazard oriented measures,
such as dams to manage floods 26 , to a broader and more integrated approach that includes all facets
of risk as a combination of hazard, exposure and vulnerability to include measures such as planning,
building regulation, and early warning systems. 27
18
Paklina, 2003; Costa’, 2004; CRED & UNISDR, 2015; O’Connor & 23 Talbot et al., 2018
24
UNDRR, 2018 Kron, 2005; Tanoue et al., 2016
19 25
IPCC, 2018; Svetlana et al., 2015 Prettenthaler et al., 2017; MARSH, 2018
20 26
IPCC, 2018; Dadson et al., 2017 Surminski & Oramas-Dortas, 2014
21 27
EM-DAT, 2019 Sayers et al., 2013; WMO 2013; Surminski & Oramas-Dortas,
22
Alfieri et al., 2017 2014; Golnaraghi et al., 2020
13Source: EM-DAT 2019: The Emergency Events Database - Universite Catholique de Louvain (UCL) - CRED, D. Guha-Sapir - www.emdat.be, Brussels, Belgium
Figure 1: Disasters by hazard type reported globally (1970 – 2018)
A study of a global hydrological model with climate scenarios derived from 21 climate models (HadCM3
and SRES A1b) suggested that in 2050, the current 100-year flood would occur at least twice as
frequently across 40 per cent of the globe, affecting 450 million flood-prone people. 28 In particular,
riverine flooding is expected to at least double by 2050 – relative to impact between 1961 and 1990 in
Central and Eastern Europe, Central America, Brazil and some parts of Western and Central Africa. 29
Arnell and Gosling’s (2014) study further suggested that there is a strong regional variability of impact,
with Asia being most at risk. This is confirmed by the most fatal disaster of 2019, due to prolonged
flooding in India, killing at least 1,750 people. 30 In the same year, approximately 820 disasters caused
overall losses of US$ 150billion, mostly due to high flood losses being generally uninsured as compared
to wind damages, even in developed economies. 31 Munich Re's NatCatSERVICE, estimated 17,300 flood
events resulted in 890,000 lives lost to floods from 1980 to 2019, at an economic cost of US$ 4 trillion
with US$ 1.3 trillion insured loss. 32
Insuring flood loss is a process of using insurance, as a legally binding financial instrument, to transfer
economic flood losses from individuals or governments to insurers or capital markets.33 However,
developing flood insurance is technically challenging due to; (1) a lack of accurate assessment of
exposure, and (2) difficulty in estimating the probability of flood loss . 34 As a result, insurers tend to price
28 32
Arnell & Gosling, 2014 Golnaraghi et al., 2020
29 33
Bubeck et al., 2016; EEA, 2016; FAO, 2017; OCED, 2016; WMO, Prettenthaler et al., 2017; Ramm and Balogun, 2018; Meenan et
2019 al., 2019; MCII, 2020
30 34
AON, 2020 Aerts and Botzen, 2011; Seifert et al., 2013; Surminski, 2013;
31
Munich Re, 2019 Prettenthaler et al., 2017
14
Published 31 May 2021flood insurance at a high rate to compensate for the high uncertainty in expected flood impacts. This
leaves governments in flood prone countries with the dilemma of choosing between bearing flood
burden by forgoing insurance coverage for its population; and discerning how to reduce flood impacts,
while providing affordable flood insurance coverage for the population.
This paper puts a focus on latter, by assessing and extracting lessons learned from existing national
flood risk pools from Belgium, France, Switzerland, the United States and United Kingdom (see section
4). A flood risk pool is a mutual organization, which can be both private and public, and is established
to spread risk equitably among its members through joint premium contributions to build financial
reserves and transfer excess risk to the credit market in anticipation of future large-scale flood losses. 35
It allows countries to finance flood response through pre-disaster premium contributions and avoid
budget reallocation when pre-emptive risk reduction measures are not taken. 36 Section 2 provides
insight on how governments can utilize the benefits of insurance to facilitate pre-emptive flood risk
reduction measures and its limitation to manage flood risks.
2. Perspectives on Flood Risk and
Integrated Approaches
It is important to clarify that, from an ecological perspective, floods have always played a pivotal role in
human civilization. Riverine floods often offer benefits such as groundwater recharge and increases in
soil fertility for agricultural production, attracting human settlements and overtime resulted in industry
development. 37 On the contrary, from a development perspective, floods causes of loss of life, damage
to property and infrastructure, as well as disruption of public services. 38 Consequentially, flood
management initially focused on flood defense structures such as dams and dykes. 39 According to
Tanoue et al. (2016), these man-made historical efforts to reduce flood risks resulted in a negative trend
in mortality and loss rate. As a response in recent decade, integrated flood risk management (IFRM) that
includes structural and non-structural measures, such as land use polices, are preferred. 40
35 38
Pollner, 2001; OECD, 2016; Prettenthaler et al., 2017; World Talbot, 2018
Bank, 2017; Reichel & Schmeiser, 2018; Broberg, 2019 39
Hegger et al. 2016
36
Broberg, 2019 40
Sayers et al. 2013
37
Soffar, 2016; Fema, 2018; Bubeck et al., 2016; Humphries et al.,
2016
15
Published 31 May 2021IFRM is a strategic forward-looking framework that focuses on reducing flood risks by sharing,
coordinating and implementing responsibilities among a wide range of stakeholders across levels,
sectors and at times countries. 41 The framework emphasizes risk governance, risk assessment and
communication, risk reduction, such as early warnings systems, and reconstruction plans. The typical
IFRM follows the traditional disaster risk management framework phases known as prevention,
preparedness, response and recovery. 42
Given the objective of IFRM is to decrease the likelihood of floods and lessen flood impact on
societies 43, authors like Jongman, et al. (2015) and Ramm and Balogun (2018) suggest that the
projected increase of climate change impact, such as increase in 100-year floods 44, should be factored
in to implementing IFRM. Thus, Ramm and Balogun, (2018) developed the concept of integrated climate
risk management (ICRM), shown in figure 2 below. ICRM advances the traditional IFRM framework to
include the Risk Retention and Transfer phase. This approach aims to provide a comprehensive risk-
oriented conceptual framework that combines disaster risk measures with adaptation measures. It
pays particular attention to the added value of insurance as a risk transfer instrument in all phases. In
this context, ICRM includes climate change perspectives into IFRM.
41 43
Begum et al. 2007; Klijn et al. 2008; Simonovic 2013; Golnaraghi Samuels et al., 2009; Suykens, et al., 2016
et al. 2020 44
Arnell and Gosling, 2014; IPCC, 2014; Unterberger et al., 2018;
42
Hegger et al. 2016, Ramm and Balogun, 2018; Golnaraghi et al. WMO, 2019
2020
16
Published 31 May 2021Figure 2: Integrated Climate Risk Management Approach (Ramm and Balogun, 2018)
In line with other authors, 45 Ramm and Balogun, (2018) highlighted that by proactively and innovatively
using insurance to manage flood risks, the ICRM approach can offer benefits such as:
a) Catalyzing data collection that enables cost-benefit analysis to determine financial estimation
of different flood management measures. That is, it helps ascertain when insurance is most
beneficial and suitable to enhance existing flood management capacity.
b) Leveraging high-quality data using catastrophe modelling from insurers to establish data
standards that assist with identifying areas at risk.
c) Enhancing early flood warning systems and legitimizing investments to upgrade or disaster-
proof existing infrastructures to promote resilience.
d) Reducing financial volatility after a flood event and support response coordination through
improving financial systems needed to process payout.
e) Provide economic incentives to discourage construction in the flood plain.
45
Schaefer and Waters, 2016; Seifert-Daeham, 2017; Crichton,
2007
17
Published 31 May 20212.1 Flood insurance and challenges
Flood risk insurance, in particular, can generally be categorized into indemnity and index insurance
products. Indemnity insurance is the most common and traditional insurance product. It is mostly
common in developed economies, with expected payout amounts dependent on loss or damage
verification by insurers. 46 In contrast, index insurance, prevalent in developing economies, has a pre-
determined threshold for a weather parameter such as the intensity of rainfall, and its pre-agreed
payout amount is only triggered when the threshold is reached. 47 According to Conradt (2015) and
Carter (2017), indemnity insurance is challenged by moral hazard, adverse selection and is
dysfunctional for developing economies as loss verification translates to payment delays critical for
low-income populations.
Box 1: State of the art for index insurance
In the 1920s, an Indian economist named Chakravarti suggested creating an insurance policy that pays
out based on a weather-related index such as low rainfall. 48 In 2015, index-based, or parametric
insurance, has been internationally recognized as part of ART solutions, due to its ability to speed up
payout delivery in developing economies by decreasing underwriting and administrative costs. 49
However, it is inherently challenged by basis risk. This is the risk of insurance payouts that are higher or
lower than actual losses, and the payouts may deviate from policyholder expectations. 50 In short, basis
risk is a discrepancy or a weak correlation between the defined index trigger threshold during the design
phase, and actual flood loss incurred by the policyholder. 51
Beyond basis risk, the product is further challenged by lack of trust in insurers and insurance literacy
due to its novelty in low-income communities. 52 Although index insurance contracts are primarily for
weather parameters, it can also cover price shocks and yield losses. 53 It has the potential to increase
low productivity by allowing farmers at micro and meso level to take more investment risk. 54 It can also
support the transfer of large-scale risks at national level to capital markets. 55 For example, the African
Risk Capacity (ARC), an African regional risk pool, has created the Flood Extent Depiction Model (AFED)
that provides a daily depiction of temporarily flooded areas everywhere in Africa. The Model uses
satellite remote sensing from microwave sensors to map floods and measure the daily intensity of
microwave radiation emitted naturally from the earth, with a decrease in radiation signaling that
flooding is occurring. 56
51
46
Surminski, 2013; Ramm & Balogun, 2018 Conradt, 2015; Clement et al. 2018
52
47 Carter, 2017; IAIS, 2018
Ramm & Balogun, 2018 53
48 IAIS, 2018
Hinchberger, 2015; Carter, 2017 54
49 Clement et al., 2018
Surminski, 2013; Conradt, 2015; Hinchberger, 2015; Carter, 55
IAIS, 2018
2017; Le Quense et al., 2017; Ramm and Balogun, 2018 56
50 African Risk Capacity, 2017
Clement et al. 2018
18
Published 31 May 2021Both indemnity and index insurance are subject to market challenges of moral hazard, adverse
selection and charity hazard. Moral hazard refers to the potential risk of policyholders not implementing
risk reduction measures due to reliance on expected payouts as compensation for flood loss. 57
However, adverse selection may arise when insurers offer coverage as an add-on measure only in areas
classified as low-risk or, conversely, when only property owners located in high-risk areas purchase
coverage. 58 Adverse selection is a fundamental barrier to gaining market penetration, and it limits flood
risk pools’ ability to adequately spread risk across policyholders. 59 Although, still at an early stage of
implementation, index insurance has the potential to avoid adverse selection and moral hazard, the
“index” nature is beyond an individual control.60
Furthermore, risk perception and expected financial assistance (known as charity hazard), or high price
of insurance can result in at risk individuals forgoing coverage for both types of insurance. 61 While, from
an insurer’s perspective, risk perception and expected financial loss can result in insurers refusing to
cover flood risks due to covariate risk. For example, heavy rainfall in the hilly upper-land area can cause
flash floods in low-lying inland areas if there is limited drainage or absorption capacity along the hilly
side. This can potentially result in additional flooding, such as (urban) inland flooding in a different
location with a longer inundation period, causing further property damage. 62 These cascading impacts,
or risk correlation, may obligate insurers to charge unaffordable high premiums to cover costs of
potential large payouts for a single flood event.63 Hence, understanding how insurance is beneficial to
insurers and governments, is essential to developing a viable flood risk pool. 64
3. The Role of Insurance in Flood Risk
Pools
As previously mentioned, risk pooling allows a group of people or entities, across geographical
locations and over time, to build up financial reserves to cover future losses, as opposed to each
member bearing the cost individually and transferring excess risk to the credit market. 65 This means the
sharing of flood risks moves beyond the responsibility of governments, to a broader collective action
57 61
Hudson et al., 2017 MARSH, 2020
58 62
Sandink et al. 2016 Wisner, 2003
59 63
Aase, 2014, Sandink et al. 2016; Reichel & Schmeiser, 2018; Swiss Re, 2012; Seifert et al., 2013
Broberg, 2019 64
Kath et al. 2018
60
IAIS, 2018; Janzen et al., 2020 65
Menziger & Brauner, 2002; WMO, 2013; World Bank, 2018
19
Published 31 May 2021within the countries. Consequently, flood risk management will need to include a plethora of expertise
ranging from engineers, environmentalists, and sociologists, to property owners and the insurance
industry. 66
3.1 Risk Layering Approach for Flood Risk Sharing and
Transfer
Although insurance can protect against losses and damage from floods, it is not suitable to manage all
levels of flood risks. For example, the higher the expected flood losses, the higher the premium charged.
Thus, insurance can only provide affordable coverage for a small portion of flood risks, making it
essential to manage different flood risk levels with various solutions before transferring the remaining
risks to other risk carriers (see figure 3 below). A risk-layering approach does this by strategically
combining risk reduction measures with risk retention and risk transfer, such as insurance. 67 The latter
refers to general solutions implemented to manage residual risks after risk reduction and retention
measures are in place (see figure 3).
Figure 3 shows predictable small scale floods often occur more frequently with less severity. These
types of floods should be managed by implementing various risk reduction measures such as early
warning systems for early action (see LAYER 1), while moderate frequency and severity can be managed
by a mix of risk reduction measures, such as building codes and flood maps (see LAYER 2). This layer of
risk is the most suitable for flood insurance due to medium-probability and medium-severity of flood.
66 67
WMO 2013; Keskitalo, et al., 2014; Tariq et al., 2014; Bubeck et The Geneva Association, 2009; Surminski, 2013; WMO, 2013;
al., 2016; Schaefer & Waters, 2016; Ramm & Balogun, 2018 Prettenthaler et al., 2017; Ramm & Balogun, 2018; Risk
Management, 2018; Golnaraghi et al., 2020
20
Published 31 May 2021Source: Modified from Seifert-Daehnn (2018) and Authors’ own
Figure 3: Risk layering approach with risk reduction measures
However, in LAYER 3, flood risks with low frequency but high severity, causing large losses and damages,
can also be transferred to third parties (reinsurance companies, catastrophe bonds, and flood
insurance pools), as this magnitude of flooding can easily hamper the national economy or destroy the
insurance market. This is where access to the capital market, and governments’ ability to act as the last
resort insurer, is crucial to cover unprecedented or catastrophic national flood loss and damage. 68
Nevertheless, risk reduction measures, such as early warning and risk awareness campaigns, are
essential in all three layers to save lives and minimize impacts on lives and economy.
68
Schwarze & Wagner, 2006
21
Published 31 May 20214. Aggregating Success Factors for
Risk Pools
Previous studies 69 highlighted that well-designed insurance products move beyond stabilizing impact
on economic growth to incentivize risk-reducing measures and support investments. Ascertaining the
co-benefit of a risk pool is critical for developing subsequent risk-transfer strategies that could form a
valuable part of governments’ flood risk management approach. 70
Thus, from a government perspective, pooling flood risks allows aggregation to reduce the loss of lives
and public assets, while minimizing fiscal and macroeconomic consequences. 71 Although, different
views exist on the appropriateness of governments’ involvement in flood risk pools. Their role is
expected to range from; (a) being responsible for providing flood protection; or (b)designing a pool for
solidarity purposes that include low-income populations that cannot afford to pay premium, and (c)
supporting the private market with limited capacity to provide flood insurance. 72
From the insurers’ perspective, flood pool arrangements are usually formed to cover particular types of
flood risks, with difficulty to ascertain risk probability and the potential total size of payouts. 73
Researchers 74 have highlighted that insuring flood hazard is particularly challenging on a technical level
due to a lack of (1) accurate assessment of flood exposure, such as hazard maps which result in a small
risk collective, i.e. overrepresentations of individuals or groups with high loss probability demanding
coverage; (2) insurers being unable to account for or price this additional risk resulting in adverse
selection 75; and (3) flood impacts tend to affect multiple areas at different times with variation in return
period. As such, difficulty arises to estimate the probability of occurrence and potential loss 76 insurers’
risk insolvency.
These challenges interfere with the preconditions of insurability 77 - as flood risk is insurable only if the
probability of occurrence is random, its frequency and intensity can be modeled, and the risk can be
69
Le Quesne et al., 2017; Schaefer and Waters, 2016; Dorta, 2014; Thistlethwaite and Henstra, 2017; Prettenthaler et
Prettenthaler et al., 2017; Surminski & Oramas-Dorta, 2014; and al., 2017
73
Golnaraghi et al. 2020 OECD, 2016
70
Kath et al. 2018 74
Aerts and Botzen, 2011; Seifert et al., 2013; Surminski, 2013;
71
Warner, et al., 2009; Paudel, 2012; Schoenmaker and Zachman, Prettenthaler et al., 2017.
2015, Prettenthaler et al., 2017; Thistlethwaite and Henstra, 2017; 75
Prettenthaler et al. 2017
World Bank, 2017 76
Wisner et al, 2003; Prettenthaler et al. 2017
72
Youbaraj, 2012; Surminski, 2013; Surminski and Eldridge, 2014; 77
Insurability principles of any risk indicated the need for it to be
Lamond and Penning-Rowsell, 2014; Surminski and Oramas- measurable and predictable in terms of events distributions
which enables insurers to finance losses of random events with
22
Published 31 May 2021pooled. 78 Therefore, establishing and sustaining an effective insurance system at an affordable
premium price, in relation to expected flood risks, is difficult to achieve. Hence, to understand success
criteria for flood risk pools, it is beneficial to gain insight on what makes an insurance product and
scheme successful (see Annex I).
In this context, Surminski (2013) highlights that any insurance product design should apply the
economic theory of supply and demand rules as a fundamental principle. From the supply side, Berliner
(1985) suggested insurability criteria, such as actuarial, market, and societal conditions, are broad
design categories for insurers’ consideration. From the demand side, Schaefer and Waters (2016),
developed seven pro-poor principles: need-based, value for client, affordability, accessibility,
participation, sustainability, and enabling environment for low-income populations in developing
economies. Additionally, the World Bank (2017), identified political ownership, operation, and financial
efficiency as key to successful sovereign catastrophe risk pools, while, authors like Youbaraj (2012)
examined the technical aspects of reliability and sustainability of national flood pools.
Furthermore, a study conducted by Lamond and Penning-Rowsell (2014) on flood insurance from 32
countries, concluded a functioning and sustainable flood insurance scheme requires insurability with
a diverse risk portfolio, and insured being risk-aware, as well as have an affordable insurance premium
cost. In addition, authors 79 emphasize the need for risk pools to be equitable among members in terms
of capacity to pay premium and contribution to the risks. These different literature studies were
synthesized, and similar factors aggregated, in order to arrive at the success criteria (see Annex I) used
in the following section.
4.1 Creating Success Criteria for Case Study Analysis
The success criteria determined above, were broadly categorized into: pool design and access
strategies; complementary flood reduction measures; and adaptive process for funding arrangements,
as most insurers within the selected case studies have legal obligations to the European Union, with
the exception of the United States. The Solvency II rule governing European insurers provided
additional guidance in respect to “insurance regulations should be carefully designed to reflect actual
risks to protect and support economic activities of policyholders, as well as enable insurers and
relatively small magnitudes through contributions of policy 79
Paudel, 2012; WMO, 2013; Prettenthaler et al., 2017; Cazaux and
holders (Pollner, 2001) Meur-Ferec, 2019
78
Cazaux and Meur-Ferec, 2019
23
Published 31 May 2021policyholders to make long-term investments”. 80 Subsequently, the following key questions were
developed to analyze the selected national flood risk pools:
1. How is flood risk pooling designed to reflect actual risk? 81
2. How do flood risk pools link to and enhance flood risk reduction?
3. How do the insurance industry and governments sustain the risk pool to enable flood resilience
and investment?
The following section provides an overview of analyzing the case studies combining the above
questions categorized under the three key success criteria (see Annex II for more details).
I. Pool Design and Access Strategies
How is flood risk pooling designed to reflect actual risk?
As mentioned in section 4 above, it is difficult for insurers to determine the actual flood risks. However,
it is important to design a risk reflective premium that is within the capacity of individuals or members
of pooling entities to pay. Ensuring that flood risk pools are adequately risk reflective in their technical
design is critical for sharing, transferring and reducing flood risks necessary for the economic viability
of the pools. 82 Subsequently, this success criteria was used to analyze the design structure and
strategies used by the five national flood risk pools to gain necessary economic viability. It provides
insights on pools’ objective, mandatory or voluntary flood insurance, level of risk-reflective price,
expected losses or flood type covered, accessibility of risk reduction strategies, e.g. bundling, as well as
private vs public partnerships or both.
II. Complimentary Flood Risk Reduction Measures
How do flood risk pools link to and enhance flood risk reduction?
Integrating risk reduction conditions in flood risk pools is said to have the ability to circumvent moral
hazards, adverse selection, and reduce premium cost. 83 Pollner (2001) highlighted that insurers can
take several steps to help promote investment in risk reduction measures based on accurate risk data
and in turn reduce potential loss profiles on underwritten risks. While authors like Prettenthaler et al.
(2017) suggested that governments can also play an active or passive role in enforcing risk reduction
80 81
Insurance Europe is the European insurance and reinsurance Actual flood risk can be considered as the underlying potential
federation. Through its 37 member bodies — the national risk of a flood event
insurance associations — Insurance Europe represents all types 82
Paudel, 2012; Filatova 2014; OECD, 2016; Prettenthaler et al.
of insurance and reinsurance undertakings (Insurance Europe, 2017
2019). 83
Prettenthaler et al., 2017; Le Quense et al., 2017
24
Published 31 May 2021measures. Consequently, this criteria assessed premium level, incentives to reduced premium cost,
marketing penetration rate, and risk reduction strategies linked to pools.
III. Transformative Processes of Funding Arrangements
How do the insurance industry and governments sustain the risk pool to enable flood resilience and
investment?
The premiums paid are usually pooled to create a fund reserve from which qualified claims are paid 84
to avoid insolvency. Risk of insolvency is faced by insurance companies when covering risks, such as
national flooding events, which may result in large loss claims that hamper their ability to disburse
payouts as agreed. 85 Various methods are utilized by the insurance industry and governments to limit
the financial burden of a single entity. 86 This criteria examined how governments and the insurance
industry limit financial burden by assessing: the their level of responsibility, existing funding
arrangements and policy regulations to ensure sustainability.
5. Findings and Lessons Learned
The assessment conducted in section 4 revealed that the increasing frequencies and severity of flood
impacts over time have necessitated continuous policy and regulatory adjustment across all case
studies. Reinforcing the need to maintain collaborative and cooperative efforts of both the government
and insurance industry. The following section discusses findings from the analysis carried out in Section
4.
5.1 Designing a Smart Flood Risk Pool for Functionality
and Sustainability
Among all case studies analyzed, there is a need to strike a balance between the ability to pay the
premium, equity among members, and contribution to capital reserve for future insurance payouts.
Beyond this, all the pools analyzed have adapted to increasing flood risk by reforming policy and
financial arrangements to ensure continuity of the pools.
84 86
Pope and Ma, 2008 Prettenthaler et al., 2017
85
WMO, 2013; Schaefer and Water, 2016; Le Quense et al., 2017;
Marsh, 2017; Ramm and Balogun, 2018
25
Published 31 May 2021I. Pool Design and Access Strategies
The analysis showed that national flood risk pools are designed based on specific national values, such
as equity and inclusiveness, for solidarity to enable access to broader portions of the population. Thus,
the objective of all the flood risk pools is to provide affordable flood insurance coverage for both private
and public properties. Although, access strategies employed to ensure large population coverage
differs across case studies. In Switzerland, Belgium and France, flood insurance is included in (bundled
with) fire insurance, which is mandatory for mortgage access. 87 While, Flood Re and NFIP offer voluntary
flood insurance coverage, it is mandatory for high-risk properties to access loans and mortgages. 88
Notably, voluntary flood insurance has low market penetration rate, for example to 35 per cent in the
state of Florida (U.S.) with lower coverage variation in other U.S states, as compared to 75 per cent as
lowest market penetration rate for mandatory flood insurance case studies. 89 Although, high market
penetration rates at 90 per cent in France and Belgium were achieved through bundling flood insurance
with mandatory fire insurance. Whereas, the Swiss pool links its flood insurance with multiple hazards.
The different pools exclude covering certain types of flood risks to reduce the exposure of insurers.
However, the typical flood risks faced by the respective country is usually included in the coverage. For
example, NFIP covers river and flash flood, as well as surges after hurricane (Swiss Re, 2015), given the
fact that the U.S is exposed to hurricanes. While, the Swiss pool covers river and flash floods but
excludes flooding from artificial water structures, as well as direct groundwater intrusion. 90
Charging risk reflective premium is still a challenge for the pools as it has a direct impact on affordability
and the resulting coverage level. While pools in Belgium, the U.K. and the U.S. differentiate premium
costs based on risk levels, Switzerland and France do not consider risk in its pricing and offer a flat rate
flood insurance. In the U.S and France, government subsidy intervention limits private insurers from
charging a risk-based premium. 91 The U.S. in 2012, passed the Biggert-Waters Flood Insurance Reform
Act to eliminate some subsidies, and move toward a risk-based premium. 92 As a result, premiums
became unaffordable, and in 2014 these changes were rolled back with the Homeowner Flood
87 90
Paudel, 2012; Nguyen 2013; Zurich, 2013; Suykens et al., 2016; Zurich, 2013; Roethlisberger et al., 2015; Swiss Re, 2015;
Schwarze & Croonenbroeck, 2017; Cazaux & Meur-Ferec, 2019; Schwarze & Croonenbroeck, 2017
Roethlisberger et al., 2015 91
Michel-Kerjan, 2010; Paudel, 2012; Cazaux & Meur-Ferec, 2019;
88
Surminski & Thieken, 2017; Paudel, 2012; FEMA 2019 Horn & Webel, 2019
89 92
Jeroen & Botzen, 2011; Suykens et al., 2016; Hanger et al., 2017; Michel-Kerjan, 2010; FEMA, 2018; Horn & Webel, 2019)
Seifert-Dähnn, 2018
26
Published 31 May 2021Insurance Affordability Act. 93 In the U.K., Flood Re provides subsidies according to tax category and is
expected to be fully risk-reflective by 2039. 94
II. Complimentary Flood Risk Reduction Measures
In theory, the ability of insurers to price risk signal incentives for risk reduction measures that not only
reduce flood loss, but also result in a reduced premium cost. 95 In line with Surminski, et al. (2015), the
paper further found that although risk-based pricing is important in its ability to incentivize risk
reduction measures, it is not a sufficient condition for preventing moral hazard and incentivizing risk
reduction. As such, risk reduction measures, such as building code regulation, deductibles, and loans,
have been integrated into risk pools to increase or reduce premium cost 96, as well as, ensure adequate
premiums are collected to cover the expenses of the insurers, including their ability to make payouts. 97
At the design stage, flood risk reduction measures can be included as a pre-requisite. For example, the
NFIP requires a commitment to flood plain management for access to the pool. 98 Prior to establishing
Flood Re, a mandatory clause in the agreement ‘Statement of Principles’ required the government to
invest in flood-proofing new buildings or avoid flooding zones to reduce future risks. 99
During implementation, various obligatory risk reduction measures are in place to ensure the
functionality of the pools. Insurers in Belgium are legally allowed to refuse coverage for buildings in
high-risk zones, and in the event of a flood, the property owner may not receive financial assistance
from the disaster fund. 100 In Switzerland, the insurance payout can be reduced, if risk communications,
such as mobile flood alerts - integrated and provided by the pool - are ignored. 101 According to Cazaux
and Meur-Ferec (2019), the French CatNat can increase deductible for buildings that have received
compensation three times. Similarly, NFIP legally requires lending financial institutions to ensure that
loans given to owners of properties in the special flood hazard area (SFHA) classification have flood
insurance coverage. 102 Failing to comply can lead to a US$2,000 fine for these financial institutions,
while the property owner(s) may not receive flood disaster assistance from the government.103 NFIP
promotes premium reduction through adherence to risk measures, such as building code regulations
93 98
FEMA, 2018 Kerjan-Michel, 2010; Paudel 2012; Horn and Webel, 2019; FEMA,
94
Surminski & Thieken, 2017; Hanger et al., 2017; Flood Re, 2019; 2019
99
Flood Re, 2019b Defra, 2014
95 100
Le Quense et al., 2017 Paudel, 2012; Suykens et al., 2016
96 101
Hanger et al., 2019 OECD, 2017; Seifert-Dähnn, 2018
97 102
Seifert-Daehnn, 2018 Michel-Kerjan, 2010; Horn & Webel, 2019
103
Horn & Webel, 2019
27
Published 31 May 2021and flood maps, and the failure of municipalities to implement these measures can result in a
suspension period, after which the premium cost can increase . 104
Nevertheless, there is an ongoing discussion within Flood Re, NFIP, and CatNat to make the premium
cost more risk reflective and ensure solidarity in terms of equity and fairness among group members.
Solidarity is usually achieved by redistribution and a subsidizing arrangement where tax payers pay for
those in the lowest income bracket of the population. Flood risk pools ensure solidarity through the
sharing of costs amongst pool members, in terms of equal rights to flood coverage and obligations to
risk level contributions. The latter is based on the principle of actuarial fairness, which may exclude
members, limit coverage, or increase premium costs due to high levels of flood risks. 105 In 2019, NFIP
introduced an improved community risk rating ‘Risk Rating system 2.0’ to phase out current subsidies
by 2021 to better reflect properties’ risks using the latest actuarial practices to set rates and reflect
additional types of flood risks in rates. 106
III. Adaptive Policy Process And Funding Arrangements
In addition to charging risk reflective premiums and mandating risk reduction measures for the flood
risk pools, an adequate capital reserve is needed to pay claims. To address this, portions of premiums
collected have resulted in funds being created in France, Switzerland, the U.K, and the U.S. The Swiss,
NFIP, and Flood Re pools have established funds to finance the actual pooling arrangement. 107
Whereas, the CatNat’s Barnier fund is financed through premiums with a 12 per cent surcharge
collected and used to invest in risk reduction measures such as flood zoning, flood defense, and
preparedness actions. 108 The associating "Barnier" law mandates municipalities to take natural risks
into account in spatial planning within their respective community-based plans. 109 Although, they
noted that this places a higher obligation on states and municipalities to prepare the plans, rather than
on the insured individuals.
104 107
Kerjan-Michel, 2010; Paudel 2012; FEMA, 2018b; Horn & Webel, Milligan, 2016; Schwarze & Croonenbroeck, 2017; Flood Re,
2019; FEMA, 2019 2019; Moorcraft, 2019
105 108
Maartje, 2019 Suykens et al., 2016; Seifert-Daehnn, 2018
106 109
Horn, 2019 Cazaux & Meur-Ferec, 2019
28
Published 31 May 2021Box 2: Insights on State and Municipality Risk Reduction and Payout Engagement in Pools
In Switzerland, the federal government processes the actual flood insurance, but they are regulated at
the state level, guided by common principles. This differs from the NFIP, which does not clearly define
common state principles to guide the mandatory establishment of floodplain management state
offices. Regardless, municipalities risk probation and suspension from NFIP if the requirements are not
met, including a premium surcharge for re-entry. This results in the population of the municipality
paying a higher premium, contrary to Flood Re, where avoided flood losses and reduced risk, due to
large-scale structural measures made at the municipal level, did not result in a premium reduction for
the population.
Similar to NFIP, the CatNat also uses an increase of deductibles after repeated flood losses and claims
occur in the same municipality. Although, this places a higher obligation on municipalities to prepare
community-based plans (PPRI), rather than on the insured population. The Swiss pool however uses a
more decentralized approach to ensure insured populations are contributing to risk reduction. For
example, insurance companies inform citizens about their responsibilities to reduce flood risks and
provide finance for relevant measures.
One major setback to this model is that several delays can occur at the municipality level when
insurance payouts are subject to national or federal approval. For example, the CatNat’s "Barnier" law
mandates municipalities must submit a request to trigger the CatNat payout. The NFIP requires a
national disaster declaration, and as such, disaster assistance is not usually available at the state level
for small-scale flooding. As a result, Kousky and Shabman (2015) proposed that NFIP should use index
insurance for states to address this gap. The inclusion of index insurance would allow a more rapid
payment after a flood impact, and promote business continuity through quick property reconstruction.
In some cases, like the Swiss pool, the “fondssuisse” fund is financed by tax and premium collection to
compensate for flood losses that cannot be prevented. 110Nevertheless, the governments of the U.S,
France, and Belgium play an additional role as the state guarantor with amounts ranging from US$ 313
million to US$ 20.75 billion to insurance companies participating in the flood risk pool. 111
Furthermore, in all case study countries additional disaster funds exist to provide flood assistance.
These funds can be linked to the flood risk pool for the triggering of the insurance payouts or
independent of the insurance trigger. In the U.K. and Switzerland, insurance compensation is allowed
without an official declaration of disaster. Contrary to the U.S, the French and the Belgian pools require
an official declaration before insurance payment can be disbursed. To limit the amount being
disbursed, insurers (either private or public) have policy coverage limits, and any expenses that exceed
this limit is the responsibility of the insurance policyholder. For example, the Swiss pool has a coverage
limit of approvimately US$ 300 million,
110 111
OECD, 2017 Paudel, 2012; Cazaux & Meur-Ferec, 2019
29
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