The heat is on Insurability and Resilience in a Changing Climate Emerging Risk Initiative - Position Paper Notes: This paper frequently refers to insurers. When doing so this is intended to mean the insurance industry including reinsurers, insurers and distributors or brokers.

This paper relies heavily on the Intergovernmental Panel on Climate Change (IPCC) for data and charts, drawn from SR15 and AR5 working papers. The heat is on 3 Insurability and Resilience in a Changing Climate

Foreword

Global warming is underway, yet there are a wide range During our research we have been struck by the precarious of potential outcomes relating to the timing and extent of situation, with the world currently on a path towards ‘too little, future warming. Furthermore, there are potentially huge too late’. On the other hand, we are encouraged that the Paris consequences under scenarios at the upper end of the range. target is technically achievable as recently set out by the IPCC, Conversely, to achieve the Paris targets and restrict the extent IEA, EDC and others. It will, however, require a determined of warming will require a massive and prolonged transition and wide-ranging set of transition policies and programmes effort, unprecedented in scale and duration, which may be (sustained at several times the pace of current transition orderly or disorderly. activity).

Therefore, climate change is a risk of an unusually broad and We have approached the topic as risk managers, so we give rich nature, and many regard it as the greatest risk currently due attention to the downside risks as well as the central facing humanity. Although it has been recognised as a key projections gathered from existing research and publications. emerging risk for some time, the CRO Forum decided now We consider assumptions and mitigation plans with a critical was a good time to focus on it, given its increasing urgency, eye, bearing in mind the context and any empirical evidence of complexity, wide range of scenarios and the pervasiveness of their relevance and effectiveness. At times we have not shied its impacts. away from expressing our opinion.

The intention of this position paper is to provide insurance I would like to thank our external reviewers, Professor Joanna sector CROs and their colleagues, and wider stakeholders, Haigh, Professor Peter Höppe, Dr Maryam Golnaghi of the with a clear understanding of what climate change implies Geneva Association and Professor Sonia Seneviratne, for for the insurance industry, both from an underwriting and giving up their time and for their insightful comments. Any investment perspective, and to equip them to challenge their errors are ours, not theirs. businesses and clients in their responses to climate change. And I would like to express my gratitude and respect for my Existing research on climate change is broad and extensive. colleagues on this CRO Forum working group, from Allianz, This paper does not aim to replicate this research, but to AXA, Generali, Hannover Re, Munich Re, NN Group, Prudential, navigate the main issues, and provide a clear and up-to-date Swiss Re, SCOR, Uniqa and Zurich Insurance Group, for their view of the climate change challenge, centred on the potential energy, insight and active participation in the production of this impacts on the insurance sector. This covers implications for: paper, and in particular to Luke Watts from RSA for organising and facilitating the entire project and for careful editing. It is the yy underwriting of climate change related risks (and the collaborative efforts of all that result in what we hope you will important question of insurability); find a balanced and thought-provoking summary of the climate yy investment activities; and change issues facing insurance. yy reporting and disclosure. William McDonnell The paper also considers the social role of the insurance industry and its responsibility to support the wider societal Group Chief Risk Officer, RSA Insurance effort to transition to a lower carbon world, and to influence civic and infrastructure planning decisions now to help avoid January 2019 an insurability gap in the decades ahead. Table of Contents

Foreword 3

Executive Summary 6

Introduction 8 1.1 The globe is warming 8 1.2 Current assumptions on climate change 9 1 1.3 Key physical tipping points 11 1.4 Transition risk 13 1.5 Economic implications 14

Climate Change Scenarios 16 2.1 Under 2°C scenario (Paris targets met – steep transition) 18 2.2 +3°C scenario (More severe physical impacts) 22 2 2.3 +5°C scenario (Physically devastating) 23

Implications for Insurers and their Customers 24 3.1 Insurability 24 3.2 P&C underwriting 27 3 3.3 Life underwriting 31 3.4 Investment implications and stranded assets 33 3.5 Transition risk and socio-economic factors 34

Insurance Industry Responses 36 4.1 Resilience, mitigation and adaptation 36 4.2 Supporting societal change – a social role for the insurance industry 38 4 4.3 Tackling climate risks through investments 39

Climate Related Financial Disclosures 41 5.1 Towards better climate disclosure 41 5.2 Accountability and measurement 42 5 5.3 Challenges and ways ahead 43

Conclusion 45

Appendices: Concentration pathways and scenario definitions Glossary Bibliography 5 TheThe heat Paris is target on (1.5-2°C) to limit dangerous physical To hit the Paris targets will require a long, profound Insurabilityeffects ofand climate Resilience change in a is Changing vital but Climatetough to meet. transition. This means major changes to energy, industry, Research indicates that 3-4°C warming is most likely. freight, heating etc, sustained and extended to deliver There is a risk of >5°C which would be catastrophic. large new emissions cuts every year, decelerating fast throughout 2020 to 2070. Probability of 50% warming Rate of acceleration of CO₂ emissions over time by 2100 (°C) RCP4.5

RCP6.0 WWII WWI RCP8.5 RCP*2.6 accelerating RCP4.5/6

5% 0 RCP8.5

Iran, RCP2.6 Great oil crisis

5% decelerating Depression Financial Huge 1% crisis effort to decelerate 1% Data from IPCC fast enough Paris

0 1 2 3 4 5 6 °C 1850 1900 1950 2000 2050 2100 * See page 48 for a description of RCP

Warming by 2100 <2 °C 3 °C 5 °C Physical impacts 1.5 °C 2 °C

Sea-Level Rise (cm) 0.3-0.6 m 0.4-0.8 m 0.4-0.9 m 0.5-1.7 m

Coastal assets to defend ($tn) $10.2tn $11.7tn $14.6tn $27.5tn

Chance of ice-free Arctic summer 1 in 30 1 in 6 4 in 6 (63%) 6 in 6 (100%)

Tropical cyclones: Fewer (#cat 1-5) -1% -6% -16% Unknown Stronger (# cat 4-5) +24%* +16% +28% +55% Wetter (total rain) +6% +12% +18% +35%

Frequency of extreme rainfall +17% +36% +70% +150%

Increase in wildfire extent x1.4 x1.6 x2.0 x2.6

People facing extreme heatwaves x22 x27 x80 x300

Land area hospitable to malaria +12% +18% +29% +46%

Economic impacts

Global GDP impact (2018: $80tn) -10% -13% -23% -45%

Physical: uninhabitable Transition: fossil fuel Mixed: some fossil fuel zones, agriculture, water- Stranded assets assets (supply, power, assets mothballed, some intense industry, lost transport, industry) physical stranding tourism etc

Changing diets, some 60% yield loss, 60% Food supply 24% yield loss yield loss in tropics demand increase

New low-carbon assets Minimal: recession, Increasing demand to Insurance opportunities and infrastructure tensions, high and manage growing risks investment (e.g. CCS) unpredictable risks

The data used in this infographic is sourced from IPCC data and other sources as listed in the Bibliography (incl Raftery et al, Schlosser et al, Jevrejeva et al, Knuston et al, Turco et al, Huang et al, Pretis et al, and Burke, Hsiang & Miguel)

* The total number of hurricane category 1-5 tropical cyclones is predicted to decline with rising temperatures, the proportion of those that are category 4-5 will increase. The interaction of these two effects is non-linear in the models, per Knuston et al, NOAA 2015. The heat is on 6 Executive Summary Insurability and Resilience in a Changing Climate

Executive summary

Despite growing concern, 2018 again set new records in global Research suggests probable warming of 1-6°C above pre- consumption and greenhouse gas emissions. The carbon industrial levels by the end of the century, depending on the budget (i.e. the maximum cumulative emissions) consistent success of mitigating actions. Such increases may not sound with the <2°C Paris target is being used up fast. It is clear large, but the upper half of this range implies catastrophic warming cannot be kept below this level without radical and risks, far worse than is widely realised. To put this in context, it sustained economic and societal change. is broadly the same again as the warming from the depths of the last Ice-Age to the modern era, and in 1/100th of the time. The risks to insurers and their customers from unchecked This will, inevitably, overwhelm the ability of the world’s natural global warming are profound: systems to absorb and adapt. Disturbingly, many impacts are irreversible within centuries and the risks grow of passing yy The ‘physical’ risks (where climate change affects property, ‘tipping points’ that trigger runaway effects. Some irreversible industry, infrastructure and health) could be very severe, changes already occur above 1.5°C warming. especially if warming exceeds 3℃. These risks are amplified by trends of urbanisation, value concentration, non-resilient The IPCC (Intergovernmental Panel on Climate Change) land use planning and infrastructure vulnerabilities. published its Special Report (SR15) in October 2018 on yy To meet the Paris targets and avoid the worst physical risks 1.5°C global warming. It concludes that global warming requires fundamental economic and social changes, driven can technically be limited to 1.5°C (the Paris goal), but an by public policy, political will and societal attitudes. It is unprecedented breadth and scale of transition is required, important these actions are taken soon, and in an orderly which may well be inhibited by economic, institutional and and coherent way so the associated ‘transition’ risks can socio-cultural barriers. National pledges agreed in Paris would be mitigated through careful and co-ordinated planning. not be enough to reach this goal. To achieve 1.5℃ total By contrast, a disorderly transition scenario could involve emissions need to be cut by 33-50% in the next 12 years, abrupt political shifts and headlong economic disruption. potentially requiring investment of over $2 trillion per year, and net-zero CO₂ emissions needs to be achieved by 2050. In terms of timescale, the physical climate change effects are similar for all scenarios in the short term, due to lag effects, IPCC notes that all pathways to 1.5°C rely on removal of and we are likely to reach 1.5℃ by 2030-2040. The wide 100-1000 billion tons of CO₂ from the air this century. We are variation in physical outcomes arises after that, dependent on sceptical this is achievable given scant progress so far; carbon actions taken. However, the period 2020 - 2030 is critical for extraction techniques are uneconomic and largely unproven on taking action to meet or exceed Paris targets as there is a wide the scale needed. There is significant moral hazard in assuming range of possible policy paths, which alter how extensive and we can emit today and someone will clean it up tomorrow. orderly transition activity is. Efforts of a generation have not yet ‘moved the dial’ and global The scale of the challenge emissions are higher than ever. Widespread realisation of what a +3-5°C world would be like could further catalyse public There is no easy middle road. As Angela Merkel said, it’s not opinion, helping overcome socio-economic tipping-points five minutes to midnight; it’s five after. and create a political mandate for tougher action, in order to treble the current rate of transition.

Encouragingly, major institutions have collaborated to lay out clear and orderly policies and actions to achieve the Paris targets (e.g. NCE, 2018 or EDC, 2018) through adaptive technologies and incremental solutions, even in challenging It’s not five minutes sectors such as transport and heavy industry. Also, a range to midnight. It’s five of institutions and public bodies are showing leadership, e.g. minutes after midnight. California aims to generate electricity fully fossil-free by 2045. This paper explores the physical and economic impacts under Angela Merkel 2°C, 3°C and 5°C scenarios and the implications for insurers. It recognises more needs to be done by policymakers, businesses and individuals to change our outlook and to The heat is on 7 Executive Summary Insurability and Resilience in a Changing Climate

design and carry out the difficult steps. Society must work together globally with each of us taking responsibility for our emissions footprint and with policies to prevent ‘free-riding’. Role of insurers

Insurers have a unique role in the global effort to mitigate and adapt to climate change, as both providers of risk protection and as major investors managing c.$30 trillion of assets. In line with our primary functions, insurers will continue to work with customers, industry and governments to: yy Protect customers from the impact of physical perils. yy Provide risk management advice, and support mitigation, resilience and adaptation solutions. yy Maintain insurability, sustaining the real economy by planning ahead with governments, industry and society. yy Remain resilient, to continue supporting our customers. yy Provide long-term investment, including existing efforts to support greener technologies and transition activities. yy Support understanding of the financial and strategic risks of climate change through research and disclosure. Insurability and resilience

Insurers can help fortify society’s resilience to climate change by continuing to invest in hazard models, promoting their use and advising on building codes and resilient engineering. This is urgent now to minimise a future insurability gap.

Such is the scale of the threat, however, that insurability and affordability are likely to become an increasing concern: yy As hazard modelling becomes ever more precise, certain local peak risks may exceed capacity or become unaffordable to insure. Certain coastal or forest-fringe properties in USA are already on the edge of insurability. yy Governments can overcome some of the issues through pooling mechanisms that share the peak risk across a wider pool of participants; however, unless these are designed very carefully, they can make the problem worse by incentivising unsustainable development. yy However, in the more extreme warming scenario of >5°C, severe damage and disruption could become so frequent later in the century that many risks may be uninsurable, with a profound impact on the economy and on society.

Ultimately the key to resilience for society, and also insurers, is to limit future warming by reducing emissions and adapting. Transition risk needs to be taken now to avoid physical risk in the future. The insurance sector is playing its part in current plans and is working on many fronts to do what it can to help the world achieve the vital goal of keeping warming to <2°C. The heat is on 8 Introduction Insurability and Resilience in a Changing Climate

Climate change is not some far off problem; it is happening here, it is happening now. 1 Introduction Barack Obama, former US President 1.1 The globe is warming of more extreme events, but also in snow-pack outside the polar regions. helping others take action to reduce yy Global mean sea-level has risen by emissions or to adapt to climate effects. 0.19m between 1901 and 2010. Introduction Transitioning at the pace required will yy 50% of coral reef area has sustained The science behind global warming and require concerted effort from all in major bleaching damage. the role of greenhouse gases is clear and society. generally accepted. While the physical However, this is just the start. There effects of warming and climate change The signs of climate change are already are many potential repercussions. For can be modelled, the full extent of apparent. Examples include: example, on the food chain even at 2°C impacts on living conditions or societies yy New records for extreme weather warming, IPCC tells us the associated are complex to predict. However, (downpour, windstorm, drought, acidification will destroy vital marine enough is known to state that a failure to heatwave, wildfire) and more frequent ecosystems. The gravest for humanity, act now has significant implications for events, as predicted by climate in the higher warming scenarios, may the citizens of today and generations of models. lead to widespread loss of livelihood tomorrow. yy The extent and thickness of the Arctic and food shortages as repeated extreme polar ice-cap shrinking during the water and heat stresses progressively Insurance has a key role to play not only summer months. impact farm production. Repeated in protecting society from the impacts yy The rapid shrinkage of glaciers and extreme events may also strain

Figure 1 Global temperature change relative to 1850-1900 (°C) Figure 2 Range of °C increase for each RCP

IPCC SR15 FAQ1.2 Warming reached c.1°C above 1850-1900 in 2017 and is on course for 1.5°C around 2040. The heat is on 9 Introduction Insurability and Resilience in a Changing Climate

and damage infrastructure. It is not 1.2 Current assumptions unreasonable to assume such effects will be accompanied by socio-political on climate change upheaval, migration and conflict. We appear to be embarked on With recent experience of extreme a massive experiment where weather conditions, climate change Physical and transition risks discussion has grown more prominent. the consequences are hard to Before reaching these extremes, people Within the scientific community there predict and the effects may be and organisations will face the physical exists very clear evidence as presented irreversible. risks of increasingly abnormal weather through the work of the IPCC, the (heatwaves, droughts, flooding, wildfires, Professor Lord Nicholas Stern, international body for assessing the shifting storm patterns) and growing risk Chair of the Grantham Institute, LSE science related to climate change. of coastal flooding. Zones of vulnerability will grow, affecting property values and 2018 has been a year with several making investment harder. Outbreaks extreme weather events. In the summer of human and agricultural diseases and Alongside CO₂, increasing emissions there was a global heatwave in the epidemics are likely to increase. of other greenhouse gases (GHGs) northern hemisphere, associated with arise from changes in land use from deaths in Japan and Canada and fires As physical impacts become more deforestation and agriculture, primarily in California, Canada, Sweden, Spain obvious and disasters more common, methane (CH4) but also nitrous oxide and Greece. In the autumn of 2017 there public opinion may shift, and with (N₂O). Methane emissions are also rising were US tropical cyclones with unusually it liability risks may grow for those due to leakage or releases from the oil intense rainfall. As noted by IPCC, the considered responsible. and gas industry. attribution of individual extreme weather events to warming is difficult. Recent Insurability concerns will also grow. Scientists have observed various and ongoing research is focusing on For insurers to exist there must be an ongoing changes in the climate system, attribution science and how climate insurance need at an affordable price. which intensify global warming: change affects the likelihood of extreme y Seeking to maintain insurability, where y Temperature data of the combined weather events occurring. possible, to support adaptation and to land and ocean surface already build increased resilience will not only be shows a rise of over 1°C compared The IPCC provides policymakers with vital for society but also to the long-term with the ‘pre-industrial’ average from regular assessments of the scientific role for insurance within society. 1850 to 1900, with a greater rise on basis of climate change, its impacts and This may become an issue of public land than over the ocean. There is future risks, and options for adaptation policy, where the question will be how far already evidence that certain extreme and mitigation. The key takeaways from to spread or nationalise the risks so that events (e.g. heatwaves, drought) its last full assessment report, AR5, in insurance protection remains available are more frequent, linked to climate 2014 were: to individuals and organisations. Linked change. yy Human influence on the climate y with this is the need for long-term y The atmospheric water cycle is system is clear. planning and adaptation. intensifying, with greater downpours yy The more we disrupt our climate, the and evaporation. Higher temperatures more we risk severe, pervasive and As increasing efforts are made to raise the saturation point of air irreversible impacts. mitigate emissions, these give rise to (by c.7% per °C) and accelerate yy Any additional CO₂ emissions lead transition risks. The carbon budget to evaporation (by c.10% per °C). Also, to increased global warming with the achieve <2°C warming means that the as atmospheric layers warm and effect lasting for many millennia before majority of proven fossil fuel reserves expand, so thunderclouds can grow natural processes remove it from the may need to “be stranded” – see in height and strength, leading to atmosphere, unless actively removed section 1.4 below. Existing equipment heavier rainfall. Warming is estimated by other means, such as Carbon and machinery may also need to be to have boosted the intense rainfall of Capture and Storage (CCS) or re/ stranded, as their expected lifetime Hurricane Harvey in 2017 by at least afforestation. emissions would exhaust the carbon 15%. yy Humans have the means to limit y budget for <2°C warming. To highlight y Physical risks not only become more climate change and build a more the magnitude of the challenge and pronounced as temperatures increase prosperous, sustainable future if we the urgency of the problem, 2018 was but they also vary substantially by choose to. set to see a record number of fossil region, e.g. Bangladesh is projected fuel cars, trucks, aircraft, etc became to become even wetter but the The Special Report on 1.5°C (IPCC’s operational. Mediterranean and Southern Africa SR15) further highlights the increased become significantly drier. Also, damage at 2°C vs 1.5°C and reflects patterns may be affected, with recent research, as well as steps that extreme rainfall and droughts possibly can be taken in mitigation. The heat is on 10 Introduction Insurability and Resilience in a Changing Climate

happening in succession. In turn, this ice mass loss contributes to a rise in clouds can release locally is growing could exacerbate extreme events like sea levels and may have an impact at much faster rates at or above 10% wildfires, as was the case in 2017 on global ocean circulation. There per °C warming. Evaporation is rising in California. An exceptionally wet is some evidence that the Atlantic at a similar rate. As a consequence, season led to growth of vegetation circulation system that includes the both flooding and large scale that dried out in the following drought Gulf Stream has slowed by c.30% droughts are likely to be dominant creating perfect conditions for since the late 1950s. loss factors; and due to increasing wildfires. The Western US wildfire yy The effect of Arctic ice loss on mid- temperatures and dryness, wildfires area has doubled due to these latitude weather has also become are likely to become more common in effects. a very active area of research, in many regions of the world. yy A large part of the rising CO₂ particular into the slowdown and yy There is less certainty about the emissions into the atmosphere is meandering of the jet stream which impact on windstorms, but direct absorbed by the ocean. However this may contribute to more prolonged physical consequences on large scale results in rising acidity levels. Ocean weather anomalies in economically extra-tropical/tropical cyclones or surface water pH is approaching productive regions including Canada, winter storms seem less imminent. the threshold when many marine Northern USA and Europe. In fact the frequency in some areas organisms at the base of the food yy Between 1901 and 2010, global mean could even become smaller. While the web struggle to form calcium- sea-level rose by 0.19m, rising at a overall frequency of cyclones might based shells or skeletons, and coral faster rate since 1993. This makes a not be significantly impacted, their begins to dissolve. A compounding sea-level rise of up to 1m this century potential maximum intensity is likely stress is the decrease of oxygen seem plausible. to increase (NOAA 2018) and storm levels, particularly in coastal waters, paths may extend into higher latitudes observed since 1960 that is probably Climate models make additional than before. Due to the increased due to warming combined with predictions of physical risk impacts moisture it is also possible that fertiliser run-off. relevant for insurers: cyclones could survive longer over yy The Greenland and Antarctic ice yy Although average rainfall at a large land than currently and carry greater sheets are more sensitive to warming scale increases at only c.2% per °C amounts of rain. than previously thought. The rate of warming, the total water amount that The heat is on 11 Introduction Insurability and Resilience in a Changing Climate

Tipping points are so dangerous because if you pass them, the climate is out of humanity’s control: if an ice-sheet disintegrates and starts to slide into the ocean, there’s nothing we can do about that. Dr James Hansen, Climate Science, Awareness and Solutions Program, Earth Institute, Columbia University

1.3 Key physical tipping point could trigger abrupt, non-linear yy Greenland sea-ice loss, linked to responses (e.g. Amazon rainforest weather anomalies in North America points changing to savanna or seasonally dry and Europe with potential to change forest), others would lead to a more thermohaline circulation linked to the In the climate system, most of the gradual response (e.g. large-scale loss of gulf stream feedback mechanisms are of a gradual permafrost). There can be lags but also yy Ice sheet dynamics (Greenland and nature while tipping points arise where a acceleration after passing a tipping point West-Antarctica), raising sea levels critical observable threshold is crossed (e.g. ice sheet dynamics for Greenland over the long-term and potentially indicating a change in state and that a or the Antarctica). slowing down Atlantic thermohaline specific point in the warming process circulation has been crossed. In some cases Sample physical tipping points yy Permafrost thawing, releasing tipping points trigger further warming Examples of physical tipping points and CO₂ (under aerobic conditions) or an acceleration, such as permafrost their potential implications are as follows and/or methane (under anaerobic thawing. Therefore, monitoring tipping (Steffen, 2018 & WWF, 2009): conditions). Note that IPCC have ‘high points is key to tracking climate risks yy Reduction of northern hemisphere confidence’ permafrost will thaw and and major step-changes. spring snow cover, decreases the release carbon but ‘low confidence’ in albedo effect and amplifies regional how much will be emitted how soon Some feedback mechanisms are warming, as is already seen in higher yy El Niño – Southern Oscillation reversible (e.g. sea ice with warmer and latitudes (ENSO) increasing and changing cooler temperatures) on relatively short yy Arctic sea-ice loss, linked to in amplitude, changing patterns of timeframes (50-100 years) whereas potential changes in thermohaline hurricanes, precipitation and drought others are irreversible (e.g. carbon circulation (gulf stream and jet stream yy Collapsing marine ecosystems and loss due to permafrost thawing). While included) and rising sea levels dissolving coral reefs, impacting in some cases, passing a tipping fishing, biodiversity and coastal protection from storms or storm surges yy Dying Boreal Forests and Amazon Rainforest due to heat stress, reducing rainfall and wildfire, thereby reducing CO₂ uptake yy Reduced West African Monsoon, increased risk of drought and a greening of the Sahel yy Interference in Indian Summer Monsoon, increasing drought frequency yy Prolonged S.W. North American droughts, leading to desertification, as is already being experienced

Figure 3 Map of potential tipping points, colour-coded by global estimated mean temperature threshold, with arrows showing potential interaction cascades based on expert elicitation. NB: although the East Antarctic Ice Sheet risk is proposed at >5°C, some sectors may be vulnerable at lower temperatures (Steffen 2018). The heat is on 12 Introduction Insurability and Resilience in a Changing Climate

Methane hydrates

not all about CO2 By emitting just a little bit of methane, mankind is greatly accelerating the rate of Methane hydrate (or ‘clathrate’) consists of methane climatic change. embedded in a crystal structure of water, with the water Steve Hamburg, Environmental Defence Fund Chief molecules completely surrounding the methane. In Scientist appearance it resembles wax or solid fuel tablets.

The methane is present in a highly compressed form. Under normal conditions, 1m³ of gas hydrate is equivalent to 164m³ of gas and 0.8m³ of water. Gas hydrate forms in cold water under pressure in sea-bed or lake-bed sediments. It is unstable at room temperature and the methane escapes. There are moves to try to extract the methane for use as a fuel.

The environmental effects could be significant if methane is released during extraction, which given the technical complexities is possible. Methane is a greenhouse gas and about 60 times more dangerous than CO₂ per unit mass but it doesn’t linger as long in the atmosphere. In 100 years following emission, methane has a warming effect 30 times greater than CO₂.

Over 60% of methane emissions are man-made through natural gas and petroleum industries, agriculture and human waste. Any increase in or appearance of new emission sources has significant ramifications.

Figure 4 Geographical distribution of methane hydrate deposits (World Ocean Review, 2017) The heat is on 13 Introduction Insurability and Resilience in a Changing Climate

1.4 Transition risk The IPCC carbon budget for <2°C Transition risk can best be managed means 70-80% of proven fossil fuel by making the necessary policy Transition risk arises from attempting reserves must be stranded – see figure 5 changes in an open and coordinated to avoid very significant and (unless expensive CCS is applied – see way internationally, and by institutions transformational long-term physical risks box on page 21). Worryingly, the IEA making preparations in good time. The from climate change. Transition risk is estimates that lifetime emissions from sectors and activities most exposed to likely to be a key source of near-term equipment already built and in use is transition risk are those that extract and economic impacts, assuming enough alone expected to exceed the remaining produce fossil fuels and those that emit action is taken to reduce emissions. carbon budget for <2°C, indicating that large volumes of GHGs. However, there are also opportunities some of this equipment would need to for insurers from transition risk through be stranded early or modified to reduce the need for new products and services, its emissions, in order to meet the Paris creating new or developing investment targets. options.

The Bank of England defines transition Figure 5 Carbon budget1 vs carbon2 reserves in the ground risk as the risk of economic dislocation and financial loss associated with transitioning to a low carbon economy. This entails a wide range of policy, legal, technological and market changes intended to reduce emissions.

Impacts from transition risk could include: yy Fossil fuel businesses and infrastructure may lose value due to falling demand as a result of carbon pricing, or outright bans. Coal power plants in particular may be decommissioned early. yy Properties that are hard to insulate may lose value as regulations or expectations change. yy As social attitudes change, businesses may go into decline, e.g. carmakers that are slow to take a lead in electric vehicles, utility companies that fail to provide renewable fuel options or perhaps restaurant chains that are slow to introduce vegan alternatives.

1 Carbon budget as per SR15 including 100GtCO2 earth-system feedbacks and after c.50Gt emissions in 2018 2 Proven carbon reserves per IEA. Probable reserves = proven x 3.5 (except assumed no new coal). Permafrost estimate per NSIDC. The heat is on 14 Introduction Insurability and Resilience in a Changing Climate

1.5 Economic implications the current trajectory towards 3.7°C is New or more nuanced economic calculated as $550 trillion.3 principles will be necessary to achieve Climate change directly and indirectly the sustainable global economy impacts economic outcomes, such as Implications from transition risks required. We do not believe we can rely agricultural output, critical economic The benefit from acting now to minimise heavily on negative emissions as a ‘silver resources, manufacturing, energy warming is to avoid the much greater bullet’, as outlined overleaf, and would production, transport and other services, cost that global warming brings in the caution against a human tendency as well as wider human welfare. These long-term, as well as potentially saving towards optimism over realism. factors are likely to hamper economic lives and avoiding major hardship for development and contribute to inequality many. However, that introduces risks One important economic question is and poverty. Thus they are also likely associated with transition, although of a how to design economic policies that to reduce ability to afford insurance, lower order of magnitude than physical are effective, and why actions successful especially in developing countries, and risks. at reducing emission from individual negatively affect insurance penetration, sources have not yet slowed emissions to the detriment and lost opportunities One such implication is an economic growth on an aggregate global scale. for both customers and insurers. drag on countries that are major fossil ‘Balloon-squeezing’, as this may be fuel extractors or major carbon emitters. termed, is a complex matter. Counter- Implications from physical risks However, there are also material intuitively, efficiency gains appear to Moreover, recent research shows that opportunities for jobs and growth in help drive growth and keep energy costs the damage from higher warming many sectors as sustained investments low, fuelling increasing consumption scenarios will impact global GDP this are made into the low-carbon economy. and therefore increasing emissions. This century. Simply based on the observable demonstrates the complexities ahead. data, global GDP could be 25-40% Rapid shift to a low-carbon lower by 2100 in a >3°C scenario vs economy is vital Any policy actions need to be baseline. The impacts of climate change have appropriately calibrated and major economic repercussions. To date communicated. Without this, it could However, when the risk associated with the overriding goal driving economic trigger a feeling of inequality or a sense the compounding effects of large scale policy has been ongoing growth, which of unfairness, leading to social unrest, tipping points are included the NPV fuels consumption. But there is a nationalism/protectionism, climate of damage rises eight fold. This being feedback loop where that consumption, litigation or even conflict. evaluated using a stochastic model still based largely on fossil fuel, drives containing a realistic range of policy further climate change. decisions. The ultimate damage on

3 Some economic models show much more modest impacts from climate change, including those of 2018 Nobel laureate, William Nordhaus. Such results appear to be at odds with the IPCC and climate science, for reasons analysed by Nicholas Stern (Stern, 2013) and others. We have given more weight where these models have been adapted to take a broader view of risk such as allowing for damage from tipping points, extreme events and socio-political consequences of food crises, migration and conflict. The heat is on 15 Introduction Insurability and Resilience in a Changing Climate

Negative emissions - “no silver bullet” (EASAC, 2018)

To meet the Paris targets, most IPCC scenarios4 require • Other complex factors arise: e.g. in the case of Bio- not only major emissions cuts but also large-scale negative Energy CCS (BECCS) it is vulnerable to policy change, emissions, i.e. active removal of CO₂ from the atmosphere. increasing water and energy costs, ecological risks, and Several technologies are proposed, which are mostly the side-effects of warming, such as wildfires. Growing immature and face major drawbacks and challenges. The forest faces some of the same sustainability risks. most cited are storage of CO₂ either from burning biomass for energy or captured directly from the air using chemical There is also significant risk associated with moral hazard, absorption machines. where the illusion of an easy way out clouds the urgency of emissions cuts. To assume massive negative emissions is problematic as each technology has a drawback or limitation, although The European Academies’ Science Advisory Council through continued research some may be overcome. published a report in 2018 which concludes negative emissions are not a credible option in the near term. “There • The scale is vast, so requires huge capital investment, are serious questions over whether any (separately or high running costs and competition with agriculture cumulatively) have the potential to deliver carbon removals for land (except for direct air capture). This comes at the gigatonne scale and rate of deployment envisaged potentially when land value is at an increasing premium as necessary in IPCC scenarios.” They conclude that the as climate change impacts food production and water first priorities should be to: security. • reduce emissions; • The technology proposed is immature (apart from • slow rapid deforestation; and growing forest), so investment risk will be high until • develop CCS to be relevant and economically viable. designs are refined and lifetime performance and costs are understood. The 2018 Royal Society and Royal Academy of Engineering joint report reached a similar conclusion.

Comparison of Negative Emissions Technologies

Maturity Scale for 12Gt/yr C0₂ removal Challenges

High 60% global arable land. Difficult on Huge land use. Water needs. Vulnerable to Growing degraded land logging, pests, fire, drought. Offset by reduced forests albedo, GHG emissions.

Manage Medium N/a. Possibly 2Gt/yr for 10-20 Reach early saturation. Vulnerable to release from land for CO₂ years higher soil carbon respiration in warming climate. storage

BECCS Low 20-350% of global arable land High cost. Huge land use, fertiliser. CO₂ ‘leakage’ (bio-energy + at various stages. Needs ‘off the shelf’ CCS. Up to CCS) 50% less efficient than fossil fuel energy + CCS.

Direct Air Low Scalable subject to site availability Expensive. High energy and water needs. 1-10x Capture and cost more costly than point-source CCS of flue gas. (DACCS)

Chemical Speculative 3-10 billion tons/yr of powdered Speculative. Major mining and logistics weathering rock challenges. High costs. Ecological impacts.

Ocean iron Speculative N/a. Max 3Gt/year Huge ecological risks for small CO₂ removal fertilisation potential.

4 Among the AR5 models, 87% of sub-2°C scenarios include material negative emissions, and 100% of those that achieve 1.5°C. The heat is on 16 Climate Change Scenarios Insurability and Resilience in a Changing Climate

Climate Change 2 Scenarios

The use of models and scenarios pathway (RCP2.6), limiting global pronounced and evident given emissions is essential to understand future warming to <2°C, two intermediate over the last decade or so. In the first implications. Climate change progresses pathways (RCP4.5 and RCP6.0) and 10-20 years, the main differences gradually and its effects may not be one very high emission ‘business as between these scenarios are policy seen for decades. This chapter sets usual’ pathway (RCP8.5). These model choices and pace of transition. out the scenarios used to explore the pathways also include assumptions range of possible outcomes in the rest of about the level of reforestation and In the longer term, i.e. from 2050 to 2100 the paper. NB: these scenarios are not further deforestation, and a steady and beyond, being on one emissions forecasts. As IPCC put it, “the goal of decrease in aerosols due to action on trajectory rather than another will working with scenarios is not to predict smog. See appendix 1 for further details. produce quite different results in terms the future, but to better understand of physical risk. While this paper does uncertainties and alternative futures, in In the next 10-20 years, the physical not focus on longer-term developments order to understand how robust different effects are expected to be similar for all in detail, it will consider the +5.2°C decisions or options may be”. scenarios (see figure 2 above). This is scenario to evaluate the scale of because there are lags and inertia in the potential damage and to put the context In order to project changes in global global system so short-term warming around the actions needed today. temperatures, the IPCC assessed is largely driven by the increase in GHG different emission scenarios, called concentrations that has already built Representative Concentration up due to historical emissions. It is Pathways (RCPs), which describe four expected that extremes already being sample paths for GHG emissions and experienced, such as heat waves, atmospheric concentrations. They droughts, increase in precipitations comprise an ambitious mitigation and their intensity, may become more

Figure 6 CO₂ emissions (GtCO₂) – Fossil fuel & land use change

Carbon Budget 2017 infographic, Global Carbon Project The heat is on 17 Climate Change Scenarios Insurability and Resilience in a Changing Climate

Selected scenarios yy The first corresponds to global The relative scale between the scenarios The paper will focus on three broad warming of under +2°C, or ‘Paris of some of the major human impacts is scenarios, based on temperature Targets Met – Steep Transition’ illustrated in Figure 7 below: increase by 2100 relative to 1850-1900 yy The second assumes that global baseline and linked to the IPCC’s four warming exceeds +3°C or ‘More RCPs. These are described in more Severe Physical Impacts’ detail in this chapter and are as follows. yy The third corresponds to global These are not forecasts but represent a warming reaching +5.2°C or reasonable synthesis of the science to ‘Devastating Physical Impacts’. provide guiding ‘pathways’.

Figure 7 Avoiding the impacts of dangerous climate change

SELECTED GLOBAL CLIMATE IMPACTS IN 21004 With sustained effort up to and beyond 2030, the Paris pledges will limit the severity of key impacts on people and society.

The scenarios used are: 1. No mitigation: RCP8.5 2. Emissions capped at INDC level: INDC pledgesto 2030 and no backtracking 3. Strong further action to meet 2°C target: INDC pledges to 2030, with further large reductions in greenhouse gas emissions to meet 2°C by 2100 4. Relative to a scenario with no climate change The temperatures displayed here represent median values for each scenario. Water stress and cropland availability will also be affected by land use decisions e.g. concerning biofuels. The heat is on 18 Climate Change Scenarios Insurability and Resilience in a Changing Climate

2.1 Under 2°C scenario Physical risks regions, as well as in Eastern Asia Physical risks arise within the scenario, (including China and Japan) and in (Paris targets met - steep transition) which could lead to increased flooding, Eastern North America. At a European This scenario can be associated with droughts, and severe convective storms. level, recent research models indicate the IPCC’s RCP2.6 that have following According to IPCC SR15: that flood damage could increase in features or assumptions. yy Heatwaves are likely to increase, today’s money from an average of €5 yy In policy terms, it is closest to the particularly in mid-latitudes on billion a year for 1976-2005 to €12 Paris Agreement to contain warming land, with the increase in peak billion in a +2°C world. to “well under 2°C” with the aim of temperatures being 2-3 times yy Tropical cyclones may be fewer achieving 1.5°C. higher than global average increase. overall, but the most powerful yy Based on a rapid stabilisation and The strongest change is found in category 4-5 storms may be 16% eventual reduction in the level of Central and Eastern North America, more frequent. GHG’s in the atmosphere after 2050. Central and Southern Europe, yy Heavy rainfall associated with tropical y y Median expected temperature the Mediterranean, Western and cyclones is likely to increase by 10- increase by 2100 of 1.6°C, with Central Asia, and Southern Africa. 15% (already seen with Hurricane a range of 1.0-2.8°C allowing for These regions all have a strong Harvey). climate system uncertainties. soil-moisture-temperature coupling yy Coastal flooding is likely to cost yy Increase in sea level rise of 0.45m, leading to increased dryness. 0.3-5.0% of global GDP annually by with a range between 0.3m and 0.8m. yy Climate change has substantially 2100 with today’s level of coastal increased the probability of drought protection. ‘Tipping points’ that become likely by years in the Mediterranean (already yy The Arctic Ocean is likely to be 2°C warming include: seen) and in Southern Africa. yy A profound impact on marine life and ice-free at least one summer in ten, yy Warming trends are likely to be partly fisheries from rising ocean acidity, opening it up for greater commercial offset in NW Europe by further 11% making it hard to form calcium-based use. slowing of the Gulf Stream. shells or skeletons; total collapse of y reef-building coral; very high risk to y Increased warming and drying are The effects on the global economy bivalves (mussels, clams, oysters etc.) already linked to an almost doubling are likely to be significant. Some low and to fundamental food web species of the Western US wildfire area. lying and coastal communities would such as pteropods. yy Extreme downpours and fluvial be impacted and require adaptation yy The Greenland ice-cap enters gradual flooding may increase in many areas. measures, particularly in developing terminal decline (raising sea-level by Robust increases in precipitation nations, but widespread economic 7m, over several centuries). extremes can already be observed dislocation from physical impacts may in mid-latitudes of the Northern be avoided. Nevertheless, a 13% net Hemisphere. Hotspots for heavier reduction in global GDP is forecast vs a downpours include high-latitude no-increase scenario.

Figure 8 Changes in annual daily maximum temperature relative to Figure 9 Changes in extreme precipitation (Rx 5day) at 2°C 1981–2010 at 2°C warming (Betts, 2018) GMST warming (IPCC SR15, 2018) The heat is on 19 Climate Change Scenarios Insurability and Resilience in a Changing Climate

Transition risks Figure 10 Annual change in CO₂ emissions over time To achieve the Paris targets, rapid action is vital to transform the world economy: over $1 trillion investment p.a. is needed (according to IPCC SR15) in order to WWII transition to a low-carbon economy. This WWI RCP8.5 is comparable to aggregate global defence budgets (c.2% of GDP). accelerating RCP4.5/6

The unprecedented scale and duration compared with history can be appreciated 0 from Figure 10 on the right.

Iran, RCP2.6 In RCP2.6 (the IPCC representative oil crisis pathway to <2°C), steep reductions are Great Depression Financial Huge

forecast each year from 2021-2070, decelerating crisis effort to requiring an incremental effort to achieve decelerate further net reductions on top of those from Data from IPCC fast enough the year before. Each annual reduction (initially c.1bn tonnes per year) is greater 1850 1900 1950 2000 2050 2100 than occurred in any single year in the last 100 years including during the deepest recessions.

Encouragingly, transition at this pace is technically feasible. The policies and actions needed have been set out recently in detailed reports by leading economic thinktanks such as the Energy Transition Commission and New Climate Economy. These include how to tackle hard-to-abate sectors like heavy transport and industry.

If enough is done to curtail warming in line with this scenario then transition risk will arise due to the economic disruption likely due to the extent and pace of transition. To have a realistic expectation of achieving the under 2°C scenario, drastic policy measures are needed, such as: yy An agreed carbon price of up to $100 per tonne across all leading nations to incentivize rapid transition. yy A wide range of other policies, similar to those set out in the 2018 NCE report (see section 3.5). yy Stopping new fossil fuel development and redirecting subsidies to transition priorities. yy Rolling out CCS or forestation on a huge scale (see page 21). The heat is on 20 Climate Change Scenarios Insurability and Resilience in a Changing Climate

The potential actions, as per the 2017 UN Figure 11 Annual global total greenhouse gas emissions (GtCO₂e) Emissions Gap Report, only account for around half the emissions reductions needed by 2030 to meet the Paris targets.

The speed and scale of reductions needed is visualised in Figures 11 and 12.

To close the gap, a range of tougher mitigation actions is set out in IPCC SR15 Chapter 4. Recently a similar list was set out in detail in the 2018 New Climate Economics report, including: yy Decarbonise electricity: growth of renewables, mothball coal and gas generators yy Decarbonise cars and heavy transport: electric buses, trucks, trains, ships yy Reduce air travel, promote car sharing or use of public transport yy Food: reduce waste at all stages promote concepts like ‘farm to table’, ‘eat local’, or vegan alternatives yy Heating: insulate buildings better and replace oil and gas boilers with renewable/electric yy Local / national planning for denser, car-less urban living yy Construction and industry: move to circular economy, re-use of materials, greener inputs yy Incentives including significant carbon pricing

Figure 12 Total emission reduction basic potentials compared to the current policy scenario in 2030 The heat is on 21 Climate Change Scenarios Insurability and Resilience in a Changing Climate

Figure 13 IPCC SR15 summary for policymakers

Carbon capture & storage is the Breakdown of contributions to global net CO₂ emissions in only hope for mankind. four illustrative model pathways Sir David King, Chief Scientist to UK Government

Carbon capture and storage (CCS) is a key technology but is developing far more slowly than expected. One example of an active project is Climeworks in Switzerland that have created a direct air capture system.

The main technical problems so far have been how to store the captured gas and the costs involved. In the case of reforestation and afforestation land use issues also arise.

In the absence of sound economics or incentives several CCS projects have been shelved, however the technology exists. Therefore, capturing carbon is a political and economic challenge not a technological one.

Most current projects capture CO₂ from natural gas fields rather than in flue gas from power plants. CCS is expensive to retrofit to existing plants, and ‘cannibalises’ up to 20% of output energy. Flue gas is typically c.10% CO₂. More efficient designs are proposed with CCS designed into new plants. Some burn fuel in pure oxygen, which improves efficiency and reduces the volume of flue-gas by around 75%. Once the water content is condensed out, it is mainly CO₂ which can be compressed and stored.

The scale of CCS required by 2050 to hit the Paris climate targets is equivalent to burying the total volume of liquid (oil, gas and water) handled today by the entire global oil industry. Total oil industry infrastructure is estimated at $30 trillion, so the order of magnitude of investment needed could be c.$1 trillion each year for the next 30 years. This is to install equipment for carbon capture, compression, pipelines to storage sites and underground injection.

Alternatively, without CCS, countries with the highest emissions would need to cut them to zero within around 30 years, which is challenging. The heat is on 22 Climate Change Scenarios Insurability and Resilience in a Changing Climate

2.2 +3°C scenario desertification of the Mediterranean increasing maintenance costs given their region. There is a growing risk at critical dependency. (More severe physical impacts) this point of accelerating warming, This scenario corresponds to both as a result of feedback effects from Diseases currently typical of tropical and IPCC’s RCP 4.5 and RCP 6, as lower the release of natural carbon stores, equatorial areas may spread towards and higher bounds, and is close to either growing soil emissions or CO₂ more temperate latitudes, requiring the AVOID2, UK government funded and methane release from thawing renewed research efforts and resulting research. permafrost. Passing this important in further strain to the national health yy It is marked by a stabilized flow ‘tipping point’ would have numerous systems. Agricultural diseases and pests of net emissions of GHGs into the consequences with direct impact on may also migrate. atmosphere, resulting in a steady infrastructure in Alaska, Canada or growth in GHG concentration levels. Russia, plus landslides and rock fall in More severe physical impacts on yy Median expected temperature mountainous regions. investment performance may arise increase by 2100 of 3.0, with a range compared with the 2°C scenario. of 1.5-5.8°C allowing for climate Extreme weather events (downpour, Emerging market assets (sovereign system uncertainties. flood, windstorm, heatwave, drought, and corporate debt) are likely to be yy Sea level rise, with a range between wildfire etc.) would lead to higher hardest hit. However, developed 0.4m and 0.9m. expenses tied to either the cost of economies will not escape unscathed. damage and disruption, the reduction The disruption to global trade and It is roughly in line with current in value of exposed property, or the supply chains from climate change aspirations when considering country need to harden defences to reduce could erode corporate profits and commitments to act, and appears vulnerability to the events. Drought, physical damage from weather effects increasingly as a base case. With it heat stress and other weather extremes could weigh on economic performance. comes more severe physical damage could degrade agricultural production Public spending to restore and harden and disruption than in the Low scenario. in many regions. Some production damaged infrastructure or to provide This scenario is broadly similar to the may move together with its associated capital through pooling techniques IEA WEO New Policies Scenario, at least infrastructure. As well as price inflation, could be a drag on government finances until 2040, which assumes achieving and this could lead to food shortages with further restricting capacity for mitigation/ extending the latest policies as laid out economic and political consequences adaptation projects. in the Paris Agreement. arising from increased unrest, migration and conflict. Transition risks Physical risks Whilst the Physical Risks are greater The physical risks are the same as Sea level rise could lead to the eventual the transition risks are reduced, for the 2°C scenario but with greater abandonment of low-lying coastal although not avoided entirely. Some severity. For example, heatwaves could cities and economic regions. The assets would still be stranded from the affect around three times as many most vulnerable include the Nile delta, need to reduce emission and some people and farms as in the 2°C scenario, Mekong delta, Bangladesh, parts of carbon capture may be necessary. and flooding around twice as many. Florida as well as the well-known plight However, the major economic impact The 2°C tipping points become even of certain small island states. For regions of substantially reducing consumption more likely, and in addition above 3°C that can afford it, an alternative would would not be as prominent. There will a number of models predict the loss of be significantly increased costs in be some need to invest in adaptation the Amazon rainforest (hotter and drier, adaptation (e.g. building dykes, barriers and there is likely to be some social not resilient to wildfires) and increasing and drainage solutions), with ever and political upheaval. The heat is on 23 Climate Change Scenarios Insurability and Resilience in a Changing Climate

2.3 +5°C scenario Physical risks Social and political upheaval will be In this scenario, the physical risks listed significant, as the global populations (Physically devastating) previously become more extreme, and jostle for the shrinking habitable and This scenario may be linked to IPCC’s natural protection and buffering e.g. by productive lands. In this scenario, RCP 8.5 and it is in line with current forests and wetlands will have been lost. the consequences for investment trends continuing. The scenario is close In several regions, peak heatwaves are performance are secondary to the to the upper AVOID2 estimates. projected to be 10°C higher than current potential collapse of sectors of the yy Continuous growth in GHG emissions extremes. global economy and, conceivably, throughout the century, accelerating doubts over the ability of society to further and then decelerating It is estimated that 60% of global continue functioning. somewhat later in the century (see cropland may be degraded as soil figure 10 above). moisture falls dramatically in many Transition risks yy Median expected temperature key regions (see figure 14), heat stress Transition risk is largely avoided in increase by 2100 of 4.5°C, with reduces yields from crops, and weather this scenario in the medium term a range of 2.8-7.8°C allowing for damage causes cumulative destruction. and investment will be focused on climate system uncertainties. Widespread food and water shortages adapting to the changing planet. yy Sea level rise of a range between are likely (implied by many models), However, when the full effects of 0.5m and 1.7m. together with massive displacement extreme climate change become of populations as large areas become obvious, stranding of assets may The scenario is uncomfortably plausible, uninhabitable due to flooding or drought. occur for the following reasons: y especially if the greatest contributors y Society may create a backlash to GHG emission fail to respect their The potential for reaching possible against carbon emitting businesses targets and no economic transformation tipping points and runaway feedback resulting in assets being stranded were to occur. The current lack of clear effects would dramatically increase. even if too late to avoid the worst climate policy continues to hamper Sea-level rise could accelerate to over 2 physical risks. y the implementation of actions against metres due to melting from destabilising y In the longer term, human progress climate change. It is important to factor areas of Arctic and Antarctic ice-caps becomes unpredictable as the in the role of ‘growth’ from growing or the occurrence of other tipping extremes of physical and social populations, increasing consumption points. Eventual sea-level rise after impacts play through. y and increasing transportation/travel, many centuries may be 70 metres, y Stranded assets and disrupted which could all increase emissions transforming coast-lines and many land- business models would still arise in despite significant efforts to reduce masses. this scenario. As society struggles them, continuing the ‘balloon squeezing’ to adapt to climate change some effect seen in recent decades. areas, particularly those close to the equator, may be largely abandoned as environments become inhospitable.

Figure 14 Annual near-surface soil moisture change 2081-2100 (IPCC AR5, 2014) The heat is on 24 Implications for Insurers and their Customers Insurability and Resilience in a Changing Climate

Our sector will struggle to Implications for reduce this protection gap if our response is limited to avoiding, rather than managing, society’s Insurers and exposure to climate risk Maurice Tulloch, Chairman of Global General Insurance at Aviva and 3 their Customers previous Chair of ClimateWise 3.1 Insurability low-lying areas in flood-plains and on consequence of being unable to rely as coasts where agriculture, infrastructure much on historical data to predict future Insurability is a key topic in a warming and trade is easier to develop and events, it will be key to invest in research world with a chance of some risks or operate. Climate change, which is a that fosters innovation in data analytics regions becoming uninsurable where global phenomenon, could have very and forward-looking models that identify premiums become unaffordable. different local consequences, and the trends in frequency and severity of Maintaining insurability could be way governments address these issues extremes. challenged under the three different will significantly influence the context scenarios. Insurers’ intention is to in which insurers operate and therefore Affordability: In the context of changing close the protection gap and good insurability of the risks. climate, premiums may rise so high progress has been made in recent years. as to be uneconomic or unaffordable Schemes such as InsurResilience, 3.1.1 How is climate change for the customer. Increased risk may initiated by G7, are designed to provide challenging the insurability of translate into higher premiums or more climate risk insurance to poorer risks? restrictive terms and conditions, making countries, supported by the Insurance For a risk to be insurable, the insurer an insurance product unattractive. A Development Forum. However, this may must be able to meet the following single event that changes the perception not be possible in the more extreme conditions: of a climate risk could disproportionately scenarios, which is likely to be led yy Identify and quantify the frequency / affect premium levels. Where there is more by affordability than insurers’ risk severity of potential hazards and the an inability to properly model and price appetite. resulting losses. the risk, this can also mean that insurers yy Satisfy itself that the risks are decide to be more cautious, adding a Numerous factors will determine what unintended (no adverse selection) and risk margin to the premium (Silver 2014) is considered insurable so these must unexpected (no moral hazard). or withdrawing capacity. The customer be understood in order to attempt yy Demonstrate it can pay potential may underestimate the level of risk and to maintain continuation of cover in losses while maintaining its solvency, consider the price to be excessive, extreme circumstances or for high- partly by avoiding major risk rendering the risk uninsurable. risk areas. Government led pooling accumulations. mechanisms may be key to locking yy Offer a price that is acceptable to all Threat to coverage availability: in insurance for the high-risk areas stakeholders (insurers, reinsurers, Mismatch of pricing expectations could or looking at other innovative ways policyholders, regulators). prompt policymakers to limit the prices of providing finance. However, the that can be charged to a level that is insurance industry needs to be cautious Climate change is challenging many of not sustainably profitable for insurers. not to insure the truly uninsurable as these conditions: They may exercise caution and refuse this could impact resilience limiting to underwrite risks in a given area. the industry’s ability to support the Global trends and local uncertainties: Examples have already been seen insurable. The specific local impacts of current of weather-related risks becoming global warming trends are still hard to unaffordable or unavailable as follows. Extreme weather risks have always been quantify. In extreme cases, this could yy 2002 German floods (€9bn cost to challenging for insurers and represent an challenge insurability as pricing depends public funds): risk reassessment accumulation risk that is a key driver of on the assessment of risk. Existing by insurers led to an increase in capital. This is particularly true for flood climate models have limitations when premiums of up to 50%, and a risk given that the majority of economic it comes to assessing local trends (e.g. reduction in areas where flood development has historically been in wildfire zones). Due to this and as a insurance was offered of 10-20%. The heat is on 25 Implications for Insurers and their Customers Insurability and Resilience in a Changing Climate

yy 2005 Hurricane Katrina (insured In the moderate warming scenario (2°C), or by resorting to self-insurance and loss >$100 billion): the availability of the horizon of insurability may expand mutualising risks. insurance fell following Katrina and with the development of new industries other events in 2004-2005. with insurance needs (e.g. renewable In a +5°C degree world, insurance energy, carbon capture and storage), activity may remain in the regions where Imperfect information: Exposure to and new types of operations becoming there continues to be economic activity. natural hazards is public information, viable (e.g. drilling, shipping in the Arctic However, the intense warming and but high-quality maps of changing region). Insuring risks in some regions destruction of ecosystems, infrastructure perils, such as flash flood and wildfire, more affected by climate change may and agriculture in some regions means do not exist as yet or are proprietary. become difficult, and it will depend on economic activity may be significantly Additionally, some decision makers the insurer’s willingness to accept higher impaired. (e.g. real estate companies and local risks. Demand for insurance may grow governments) continue knowingly to in places as the increased uncertainty 3.1.3 Factors determining develop uninsurable areas for short demonstrates the value of insurance. insurability term profit. It can be considered as a Regions most at threat are those already In practice insurability is not a fixed moral hazard, as they know homeowner experiencing flooding, wildfires, and concept. For each risk, the boundary insurance remains available under coastal surge threats. They are likely to of insurability may not remain the same certain national regimes. get worse and the size of the area at risk forever and may vary from one company is likely to grow. Low lying and coastal to another. Some insurance companies Risks of accumulation: The current areas are considered most at risk. may decide not to insure a risk that global diversification of risks may be could be insurable, based on economic, threatened if climate change increases Preventive and adaptive measures strategic, reputational or ethical the correlation between different should be able to keep the overall risk considerations. physical risks. Accumulation could at an affordable level for most perils in also occur in highly exposed regions developed insurance markets. In regions The role of public administration is also and across Lines of Business. Physical with already high-risk levels, more risk critical and insurers should maintain risks of climate change will mostly have participation of the insured might be dialogue, as per the following, helping to implications for property insurance, but required, either through investment in foster a culture of mitigation, adaptation liability risks could also arise, if there is higher protection standards or by higher and resilience. growth in related litigation actions. risk retentions. yy Governments’ risk management Solvency: Climate change may gradually The 3°C scenario creates real insurability strategies can positively impact change the risk profile for insurers challenges and could therefore challenge insurability, e.g. building codes, and reinsurers, with stronger impacts the sector. However, insurance will land-use planning, flood-hazard zone and accumulations. This has potential continue to be an important product. regulations. solvency implications. Reinsurance By actively monitoring developments yy The development of a “governmental is a key tool Property & Casualty caused by climate change and managing backstop” for insurance claims (P&C) insurers use to manage their their risk portfolio, insurers will be able related to climate change impacts, solvency. Currently, property insurance to adapt to new conditions. Some types similar to the US Terrorism Risk policies renew annually; this frequency of climate risks may become effectively Insurance Act, is another option and of repricing is fundamental to the uninsurable in highly exposed regions. can improve loss sharing between the sustainability of the insurance market. Property insurance may become private and public sector. increasingly unaffordable in flood-prone yy For some climate risks, such as 3.1.2 Insurability under different areas and some regions may only be flood, national governments can act climate scenarios insurable with very high self-retentions as “last resort” insurers. However, The insurability challenges noted above on customer side due to high frequency this role could be challenged due to will manifest differently for the various of large loss events. Governments the growing uncertainty caused by scenarios. may get more involved, trying to find climate change. solutions in the private insurance sector The heat is on 26 Implications for Insurers and their Customers Insurability and Resilience in a Changing Climate

Pooling mechanisms: UK Flood Re vs other pooling approaches

Flood Re was established by UK insurers as part of a long- In the US, the National Flood Insurance Program (NFIP) term deal with the UK government. It includes a number was set up in 1968 to cover river flood and storm surge. of features designed to incentivise disaster risk reduction A range of state-based pools for hurricane, earthquake (Mcaneney 2015): and other perils were also set up in the aftermath of other disasters to ensure ongoing availability of catastrophe • It applies only to homes built up to 2008 so as not to cover when insurers have stated their intention to withdraw encourage new building in flood zones. It is available to from these markets. cover the 2% of homes that are highest risk. • The industry supported Flood Re in return for further • Most of these schemes originally aimed simply to government commitments to fund flood defences provide subsidised, affordable cover, with no risk pricing, • Flood Re was established with a finite 25-year life to which promoted construction in flood-prone areas. allow market forces to encourage risk reduction as the • A number of these schemes have incentivised risk scheme matures. reduction in other ways, e.g. the TWIA in Texas has • On the other hand, there is little incentive to retrofit older played a leading role in ensuring stronger building properties to be resilient until the return of appropriate standards and a certification regime for weather-proofing risk pricing when Flood Re is phased out. that has now become standard. • More recently, the NFIP aims at putting (Swiss Re One of the first multi-country risk pool mechanisms 2018) the programme on a more sustainable financial specifically for climate-related natural catastrophes such path. Along with the establishment of a reserve fund, as tropical cyclones and excess rainfall is the Caribbean its strategy includes the creation of a reinsurance Catastrophe Risk Insurance Facility (CCRIF). It was set up programme with partners from the private sector. in 2007 by 16 regional governments under the technical guidance of the World Bank and strongly supported by the In France, bundled flood insurance is backed by the State insurance industry. Its objective is to provide governments through the Caisse Centrale de Réassurance. Cover is quick access to emergency funding by using parametric mandatory and included in property cover and flat rate policies that are automatically triggered according to the additional premium is collected by direct insurers. A physical characteristics of an event. Such risk pools have proportion of the premium is passed to the pool depending proven to significantly increase the resilience of countries on the percentage of risk the direct insurer accepts or exposed to climate-related natural catastrophes. reinsures privately. However, there is no premium incentive for mitigation or disincentive for the construction of In the Netherlands, the national government takes direct property at high risk, weakening sustainability. responsibility for the defences, including dykes. The heat is on 27 Implications for Insurers and their Customers Insurability and Resilience in a Changing Climate

3.2 P&C underwriting local accuracy. Climate models enable portfolio to avoid high accumulations of insurers to reproduce current weather risk in hazardous areas. Geographical For P&C, climate change will phenomena but can only be used at diversification is also key to this. predominantly impact Property a general level to model forthcoming However, due to the changing risk (including Specialty Lines) and Motor, events due to climate change landscape, opportunities to diversify and less prominently Liability (including (Golnaraghi, Nov 18). might be limited in some local markets. tort or negligence claims and D&O). Overall the insurance industry can react Nevertheless, the P&C annual insurance very flexibly to changing risk trends by The focus is often on catastrophic renewal cycle allows for gradual risk-adjusted pricing. This will ensure events. However, one of the most adaptation of products, pricing and sufficient insurance capacity as long as significant effects of a warmer underwriting rules to reflect the changing warming and loss trends are kept in a atmosphere is likely to be an increased realities. In parallel externally available moderate range and are used to inform frequency of moderate to severe events or internally-developed models are models. that may constantly erode profitability continuously and pro-actively upgraded, if not adequately reflected in pricing. which contributes to the understanding Increasingly focus will need to be on What we now call “normal” seasonal of climate change effects. loss prevention and adaptation in weather could happen less often as it order to mitigate the physical impacts. will gradually be replaced by hot and dry One consequence for insurers to be Underwriters need to become more seasons or extreme wet seasons. aware of is that changing social attitudes selective on the risk quality and are a typical trigger for liability risks. A actuaries will have to account for This section explores how insurers shift in the public mood around climate preventive measures more explicitly. should consider both physical and might encourage climate-related transition risks potentially by adjusting liability actions. Organisations may be The more physical risks materialise, their underwriting under various accused of contributing to man-made the more prevention will extend from scenarios and consider changing climate change by failing to reduce large scale protection schemes (e.g. product needs. emissions, to adapt to climate change, flood barriers and dams) to individual or to disclose risk insights transparently. adaptation measures (adequate water 3.2.1 How is P&C underwriting Demonstrating direct attribution for proof materials, less vulnerable ways affected? climate change to the emitter and of construction). This could mean The most prominent impacts are likely climate change to a particular weather insurance companies requiring additional to occur in Property, Specialty Lines loss will always be challenging. Although certifications and surveys carried out by and Motor, due to their direct physical the science of attribution by changing engineers for smaller commercial risks exposure to weather. More indirect likelihoods is developing fast. than is performed today and maybe impacts will come via Liability, mainly even for private households. Insurers will due to likely shifts in legislation and legal 3.2.2 How to prepare underwriting almost certainly leverage additional data, norms as social attitudes gradually shift. coming from new untapped sources, to New products or new lines of business Physical risks better understand the risks. might also develop to meet the needs Underwriting strategy focuses on created by climate change and the the understanding of risk. When In the agricultural insurance segment, opportunities arising in mitigation or underwriting Natural Catastrophe similar risk management principles adaptation. cover, some elements are crucial to this apply. Certain fruits and crops are understanding: vulnerable to diseases arising in the Historically, physical damage to property yy Knowledge of risk location years of increased heat stress; mean and related business interruption clearly yy Nature of the risk (building, contents) while in years of flooding or prolonged dominated the claims costs in the yy Interconnection between risks wet weather, losses may arise due to P&C segment, especially from natural through portfolio management direct damage and fungal diseases. catastrophes. The high volatility caused (including interconnected risks and Risk managers would have to identify by catastrophic events also led to supply chains) disease resistant crops and focus on the significant capital requirements under farmers’ risk management capabilities the Solvency II regime with over 85% Understanding the local risk situation of as industrial property underwriters do of natural catastrophe losses being any insured risk will become a precious today. weather related and therefore potentially asset and prudent underwriting will exposed to a warming climate. become ever more important. As trends accelerate, in the more severe climate projections, pricing may Forecasting future weather event In order to reduce the capital intensity need to rely on more forward-looking distribution under global warming of a property portfolio requires active components alongside loss history and is not possible today with sufficient management and steering of the risk modelling. The heat is on 28 Implications for Insurers and their Customers Insurability and Resilience in a Changing Climate

Not only intensity and frequency of these sectors. This mainly impacts events might change but also the segments with a high carbon footprint. regions where they occur. Other perils Underwriting operations will have to might become relevant and others expect pressure from NGOs and need to might have less relevance. This is why put prudent acceptance rules in place to the annual renewal of contracts and enforce ESG criteria. This is a particular permanently refined models are key risk for mono-line and specialty insurers to ensure limited mismatch between where their sectors shrink or disappear. climate change effects and the way they are taken into consideration when There will also be winners. New underwriting. regulations or customer behaviours could lead to a boom in certain Actuaries will have to consider that segments accompanied by rapidly their claims data may not necessarily growing exposures and demand. As contain all trends. Catastrophe an example new renewable energy modellers and actuaries will have to production methods, battery production, continue collaborations to determine the rare earth mining, or new technologies, “best estimate” view of future Natural such as CCS facilities. Catastrophe events in order to build forward-looking pricing models. The technological transition to a low carbon economy can pose new risks Research and development for the insurance sector. The industry Insurance firms, therefore, need to needs to adapt to insuring emerging continue to actively develop modelling technologies which by definition have for new perils stemming from climate no or very limited loss histories. An change in different regions as well example could be hybrid electric ships, as economic factors such as value or large cargo ships fitted with auxiliary concentration due to urbanisation. They sails. Therefore, it might be initially will need to refine existing models, and challenging to price these emerging maintain solid, permanent research technologies accurately. Furthermore, and development. This will allow while traditional technologies have an better understanding of the changing extensive loss history, they might be risk landscape and related products. increasingly exposed to market shifts Firms will need to anticipate regulatory regarding supply and demand for certain changes, monitor their business strategy commodities, products and services. for wanted and unwanted risks or segments, and do so in line with their Another transition risk that could risk appetite. The timing of technological materialise is climate change litigation, development and deployment as well as which would impact liability insurance. related market prices will remain a key This would require a clear scientific factor of uncertainty. link attributing such events to climate pollutants and their emitters. This also implies that organisations need to become more agile in their responses 3.2.3 Impact of various scenarios to a changing customer base, changing perceptions of risk and changes in Scenario <2°C regulatory framework. To achieve this scenario either the entire energy production of the world would Transition risks need to become carbon free within 30 Transition risks also impact underwriting years, or CO₂ needs to be actively taken in several ways. The changing social out of the atmosphere and sequestered and regulatory environment could lead in the oceans or underground storage. to a strategic risk due to the contraction It requires rapid implementation of new of certain market sectors (especially technologies to achieve either option. for stranded assets) and thus shrinking demand for insurance or increased Therefore transition risk is the dominant reputational risks when insuring risk insurers face in this scenario. The heat is on 29 Implications for Insurers and their Customers Insurability and Resilience in a Changing Climate

Necessary actions ultimately lead to fast and re-priced. This allows insurers to business. This creates new opportunities devaluation of carbon intensive assets. cope with the expected loss trends and to diversify geographically. On the other side there will also be many keep sufficient insurance capacity. For Where insurers are not actively winning enterprises, such as alternative active risk managers there would even providing enough cover to serve the energy companies, fuel cell producers, be opportunities driven by increased increased needs of established markets, insulation suppliers and fitters etc., as risk awareness and subsequent higher governments may decide to take action well as their supply chains. demands. The risk-return profile may like imposing mandatory insurance differ among markets depending on their schemes or creating local risk pools. The negative impacts are likely to be maturity and regulatory frameworks. relatively manageable for the insurance One way to cope with a moderate industry as a whole. However, a study Preventive and adaptive measures warming scenario will be to accept by Federation Francaise de l’Assurance should be able to keep the overall risk higher overall risk levels and volatility suggests claims costs in France could at an affordable level in all developed and actively strive to increase insurance double by 2040 with climate change insurance markets. In regions with penetration for natural perils in all accounting for a third of the increase already high risk levels, more risk markets. This helps to generate premium (l’Assurance 2016). So whilst the participation of the insured might be income streams from additional regions physical risk should be manageable required, either through investment in and perils in order to better diversify within these timescales, firms still higher protection standards or by higher risks and make it easier to absorb need to actively monitor and manage risk retentions. losses. developments. It may even create opportunities for those firms who are As more and more governments suffer This will increase demand for risk data most effective at doing so and best able from more frequent large loss events, and analytics so insurers would need to cope with increased loss frequency impacting economic growth and state to prepare themselves for a fight for and severities. budgets, they will also see the benefits talent for skilled loss control engineers, of a functioning global insurance market. geospatial data analytics and portfolio Contrary to long term business, most We expect more insurance markets managers, natural scientists, modellers property lines are annually renewed being created or opened for international and actuaries. The heat is on 30 Implications for Insurers and their Customers Insurability and Resilience in a Changing Climate

It may require new products that better makers, and potentially individuals, may and shortage of fresh water supply will serve the customers’ requirements, seek someone to blame and additional impact industry and populations alike. although these may change as different sources of capital to fund responses perils dominate in different markets. resulting in legislative or regulatory The social and political consequences actions. Such a scenario would be more could significantly deplete the economic Overall, customers’ needs for the likely in developed economies. strength of societies globally so, for insurance sector could grow and the many, insurance may become a thing risks would be manageable (as long For countries in tropical and subtropical of the past. Governments may struggle as no tipping points are activated). latitudes the frequency of catastrophic financially impacting their ability to Continually refined modelling, prudent events may become too high for a support catastrophe pools or other underwriting and active portfolio functioning and efficient insurance insurance type activity, or to fund management will be required to market to cover flood, drought and catastrophe responses. This could lead secure solvency and enable affordable wildfire. These governments may see to mutualisaiton of P&C insurance lines premium. Globally diversified insurers no other way than to mutualise risks so as to gain access to capital reserves, may have an advantage, however, and create state-run schemes for such or result in closure of pooling schemes. reinsurance capacity should be sufficient perils. As more and more local insurance This would put greater pressure on the to absorb local shock events and keep companies struggle with capital shortage insurance industry. local insurers in business. Carbon and high losses, there could be moves intensive businesses may struggle to to consolidate or pool risks with heavy That said, there would likely remain a get insurance cover or vanish entirely (in cross subsidisation of high-risk portions space for private insurance solutions. a scenario when transition risk is in any of the population. The trend towards risk As new territories become inhabitable, case very high), whilst transition risk will pools will need capital that may boost new insurance markets will be created. create new opportunities. traditional and alternative reinsurance Nordic countries, Greenland, Alaska, markets. In addition, companies could Siberia and parts of Canada and Scenario +3°C offer risk prevention services. Antarctica may become the sites for Within the first 10 or 20 years there will new developments. Currently only 1% be no significant difference compared In all developed insurance markets the of Antarctica is free of ice, this share will to the moderate 2°C warming scenario. demand for insurance is likely to grow to grow when warming reaches +5°C. There should, however, be less unprecedented levels driven by frequent pressure to change economies from a large scale loss events. This demand, Insurance will survive as an industry. As governmental and regulatory point of however, may mean the industry suffers discussed above the Northern countries view, thus reducing transition risks in the substantial losses and reaches the limits may require insurance. However, in the earlier part of the path. of risk appetite in certain perils and developed insurance markets of the locations. Smaller local players might be mid-latitude countries, such as Europe, However, in the second half of the overwhelmed by catastrophe events and US, Australia and large parts of Asia, pathway towards 3°C, the full extent face a capital shortage. property insurance may become a less of the physical risks described in attractive line of business. Weather the proceeding sections will start to Retrofitting and resilient construction events such as the pan-European materialise. Insurance may become may become a dominant risk factor in hydrological event of 1342 may become unaffordable or at least unattractive for building insurance and could even be a relatively “normal” extreme event, highly exposed regions. Some regions precondition to obtain cover in high risk interrupted by droughts that can last may only be insurable with very high areas. for several years (like in California from self-retentions on the customer side due 2011-2017) As a result, the required to high frequency of large loss events. As Scenario +5°C impact on pricing may make insurance a consequence of these developments As many regions in the tropical and an expensive commodity available only market reaction and government subtropical zone become uninhabitable, to the wealthier in society and levels or responses are likely to be more dramatic either due to extreme high temperatures, type of cover may become reduced. in part forced by the recognition of water stress and/or agricultural failure, or Pricing could also be impacted by the historical inactions. Carbon intensive insurability issues will give way to basic reduced diversification options due to a industries may experience litigation and considerations of survival. reduced number of active markets and this could have an impact on liability insurance classes. insurance. If the world reaches +5°C, this may lead to widespread famine due to crop It is not just in the interest of insurance As climatic events become more severe failures and potentially mass migration to avoid such excessive warming. It is of they may move outside “normal” to higher latitude countries where fundamental interest to all. volatility compared to pre-industrial climate allows survival. Agricultural food levels and even today´s climate. Policy production could be severely reduced The heat is on 31 Implications for Insurers and their Customers Insurability and Resilience in a Changing Climate

3.3 Life underwriting 3.3.2 Impact on mortality and Figure 16 Excess mortality by decade morbidity attributed to heat and cold, under 3 climate There are obvious direct effects of change scenarios (Gasparrini 2017) 3.3.1 How life insurers are climate change, such as heatwaves, exposed to climate change which have a quantifiable, albeit difficult Life insurance companies are exposed to predict impact on mortality and to climate change both in their in-force morbidity. This could impact mental as well as in their new business. Climate health, including a rise in suicides as change-related increases in mortality or some predict, and an overall shift in the morbidity rates could lead to adverse main causes of death. Heat and cold claims experience. Also climate change- related mortality in the US are already related deterioration of macroeconomic a larger driver of deaths than natural conditions could hamper sales of life and catastrophe events. health insurance.

In addition, there are indirect threats In addition, life insurance companies such as poor air and water quality, invest in long-term assets, matching irresponsible land use and extreme their investments to the maturity of their ecological changes including loss of policies, e.g. to cover future pension biodiversity (Smith 2011), food insecurity claims. This makes them especially and undernutrition, the spread of exposed to climate change on the asset disease vectors, displacement and side (Covington 2014). The exposure migration. These direct and indirect regarding investments by life insurance factors ultimately put an increasing companies is discussed further in strain on public health systems, social section 4.1. capital and infrastructure, which could Figure 15 Life insurance exposure to conceivably lead to social unrest and climate change political conflict.

Direct physical impacts Various studies show that health and e.g., prosperity are strongly correlated. The • Heatwaves level of vulnerability of a specific region • Storms or country and population can in fact • Floods be defined by the four main indicators, • Droughts namely population density, population age, GDP per capita and level of Indirect physical impacts education (Kennedy 1997, Kawachi epidemics could be strongly influenced e.g., 2000). The lack of a well-functioning by global warming. There is already a • Air pollution health care systems, or low purchasing trend of increasing interactions between • Diseases power in general, may amplify the humans and pathogen-carrying wildlife, • Water & food supply impacts of climate change. which drives the risk of new infectious • Environmental degradation diseases spreading (Carpenter 2018). Some early studies have made links Societal impacts between climate change and mortality, In general, the extent to which the life e.g., as articulated in the Countdown insurance sector could be affected by • Public health infrastructure publications of the Lancet, who climate change related risk depends on • Migration state, “by undermining the social the type of insurance products across • Geo-political challenges, wars and environmental determinants different regions. Insurance portfolios that underpin good health, climate that pay out if the insured person is alive change exacerbates social, economic, (such as annuities and pension) and in and demographic inequalities, with the event of death (for example, term the impacts eventually felt by all and whole life) are exposed to longevity Impact on life insurance populations.” (Gasparrini 2017) The and mortality risks respectively, with • Mortality charts given show excess mortality in corresponding levels of impact from • Morbidity the various IPCC scenarios. climate change scenarios. Income and • Premiums health insurance portfolios are generally • Claims In terms of extreme catastrophe events, short-term products which are exposed • Insurability the occurrence of pandemics as well as to morbidity risks. Most health and The heat is on 32 Implications for Insurers and their Customers Insurability and Resilience in a Changing Climate

disability covers are annually renewed, be no large difference compared to the struggle with extreme temperatures, lack so are closer to P&C lines from a moderate 2°C warming scenario, but of access to clean water, and famine that pricing perspective, and therefore less morbidity and mortality deterioration could give rise to large scale migration. susceptible to mortality and morbidity should be more evident. However, over Depending on how well populations changes. Depending on the portfolio of the longer term the impacts on mortality adapt, morbidity and mortality may a specific insurance company, losses and morbidity may diverge from the soar and new business may be heavily due to increasing mortality may be offset 2°C scenario, which coupled with the impacted. by mirroring developments in longevity economic implications could create products. significant challenges for insurers.

Purchasing power and life Under a +5℃ scenario, the direct impact insurance penetration is likely to be further amplified and In addition to the size and speed of accelerated. In addition, in the longer global warming, there are several other term, a larger indirect impact is expected factors that determine the extent of from geo-political instability as more impact. Business and portfolio specific regions of the world are expected to features like location, product types and become uninhabitable. An increasing pricing structure, market penetration, proportion of the world’s population may and risk mitigation measures will also have effects on the outlook for life insurers.

Adaptability to changing circumstances is inherently higher in wealthier areas Figure 17 Probability distribution functions by shifting weather (SREX 2012) or populations, which also enjoy higher life insurance penetration levels. Such portfolios are therefore less likely to In a constant climate, weather be impacted immediately by global should fit a bell curve with warming. However, this shielding effect average temperatures most likely and extremes of hot or may fade over time. cold are rare.

Under the 2 °C scenario, impacts on If there is a simple shift in morbidity and mortality would arise the weather then the entire from heat effects and social factors distribution moves, as per a). such as income, wealth and migration. The probability of more extreme In general, the impact in low income hot weather increases slightly countries will likely be higher, often due but cold extremes decline. to their geographical location and lower wealth resulting in lower adaptability In b) the weather variability levels. This could affect new business increases but there is no shift in the mean, which can also growth and market penetration in these have the effect of increasing regions. The transition risks in society extremes but at both ends of and economy might re-route money and the distribution. priority from life insurance cover to more immediate concerns, limiting growth. In c) the distribution itself As well as customers reprioritising, life changes and in this example companies will need to monitor their the chance of extreme heat investments carefully as transition risk increases with minimal change changes the investment values and in cold extremes. opportunities so as to avoid stranded assets and declining sectors. Asset In theory all three things could happen. An increase Liability Management may become a in temperature, an increasing more dynamic and rapidly changing skill. variability and a changing distribution. This could be worse For the second scenario, which assumes as it increases the probability of that global warming exceeds 3°C, extreme heat, yet extreme cold within the first 10 or 20 years there will could still occur. The heat is on 33 Implications for Insurers and their Customers Insurability and Resilience in a Changing Climate

3.4 Investment change policies, financial markets may to environmental considerations as well either; as falling price of coal. implications and stranded a) underreact to the change in the assets issuer’s financial position (for The risk of stranding increases with example, if markets had already the degree of ambition of the transition The investment implications of climate correctly anticipated and priced in the scenarios: the more ambitious the change for insurers are equally as risk before it has materialized); or transition scenario, the greater risk that diverse as the insurance implications. b) overreact (for example, if markets assets will be stranded. Indeed, Mark In the shorter term transition risk is were to adopt overly optimistic/ Carney, the FSB chair has stated that likely to be the biggest area of influence pessimistic market expectations a carbon budget consistent with a 2°C on asset values, in part influenced about future trends or missing target would render the vast majority of by forward looking projections as we insights on risk mitigation measures reserves ‘stranded’. become more certain of the science of of companies). global warming. In the medium to longer Physical risks term the physical effects are likely to Stranded assets during transition Over the longer term (the mid part of be the driving factors influencing asset A manifestation of transition risk is the the century and beyond), the physical values and economic performance. In creation of the so-called “Stranded impacts of climate change are likely the worst scenarios, in the latter half of Assets” (although stranding could also to become more pronounced and the century the financial markets may arise from physical risks). This occurs have a greater bearing on investment become completely disrupted as today’s where an asset is no longer able to earn performance than transition effects. The economy breaks down, further stranding an economic return, prior to the end of scale of the impact will depend on the assets and breaking business models. its usual economic life. These assets actions taken and eventual outturn for therefore suffer from unanticipated or global warming. The greater the level of Transition risk premature write-downs, devaluations warming, the more severe the weather The exposure of an institutional investor, or conversion to liabilities. Assets are and climate effects will be, and the such as an insurance company, to particularly vulnerable to stranding greater the damage and disruption to the transition risk through its investment where the level of emissions associated global economy. While it is not possible portfolio will be a function of three with extracting and processing a to precisely determine the implications contingent factors (Thomä 2016). resource would exceed the available for investment performance, broad yy The level of transition in the “real carbon budget (see section 1.4). impacts can be sketched out for each of economy” or, in other words, the the three global warming scenarios. extent to which the profile of a Similarly, equipment can be ‘stranded’ company’s operations change and/ if it will need to be decommissioned Stranding would still happen if there is or sectors become vulnerable to or expensively modified well before no transition risk, as physical risks would transition induced changes in demand the end of its useful economic life. alter economic priorities and change the and pricing. E.g. coal power or heating plants, or viable industries and economic outputs yy The reaction of financial markets carbon fuelled transportation. Global of individual countries, especially in to a company or sector’s transition equipment currently in use has already developing nations. exposure. locked in more lifetime emissions than yy Changes in transition trends, due to the remaining carbon budget to meet the a step-change in public mood and 2°C target, and so some may need to be political will, leading to significant taken offline early. To meet the target, we changes in carbon pricing and need either to decommission $ trillions other policy initiatives. There could of equipment in the next few years or to be a public backlash if warming implement a high carbon price or direct accelerates leading to a rapid shift legislation to stimulate vast-scale carbon towards more dramatic transition sequestration. responses. Energy reserves (coal, oil and natural Investors should be mindful of the gas) are particularly vulnerable to various dimensions of transition stranding. This could lead to a drop risk when modelling their portfolio in the value of the company and even exposures, with the complication that threaten its viability, depending on the relationships may not be readily the value of reserves in relation to its apparent. Depending upon matters such balance sheet. For example the worlds as the level of climate disclosures or largest private sector coal company, the future path of governmental climate Peabody Coal, went bankrupt partly due The heat is on 34 Implications for Insurers and their Customers Insurability and Resilience in a Changing Climate

3.5 Transition risk and Despite the profound risk to humanity from a “too little, too late” response, socio-economic factors most governments are a long way from having enough support from the public The clear and present danger Transition risk can best be managed to make the necessary changes to be on of climate change means by making the necessary policy track for the Paris targets. A key trigger changes in an open and coordinated we cannot burn our way to to change goals and take radical action way internationally, and by institutions prosperity… We need a clean would be a deep and sustained rise in making preparations in good time. The industrial revolution. public concern (see graphic below). sectors and activities most exposed to Ban Ki Moon, UN Secretary-General transition risk are those that extract and Meanwhile, insurers have the produce fossil fuels and those that emit opportunity to play a key social role, large volumes of GHGs. including contributing to business and public awareness of this profound and Socio-economic tipping points The characteristics of global warming fundamental game-changer, whilst As noted above, deep and extensive make it fundamentally difficult for human influencing some of the practical social, behavioural and economic psychology to act on. Long latency responses and policy implications. The change is needed to meet the Paris and the massive scale and global most important responses will be to target. This requires a major social shift. nature of the problem make it hard to continue to make sustainable insurance comprehend. Moreover, differing stages protection widely available and with It is hard to imagine such change in of national development, and rising tailored products, to allow individuals mind-set happening smoothly. Such a protectionism and cynicism about ‘free- to thrive in certainty and businesses to dramatic change in public mood carries riding’ can fuel counter-productive local focus on their core purpose rather than the risk of social and legal shocks. These behaviour. consuming entrepreneurial energy and could cause sudden impacts to insurers’ capital in climate risk management. business areas or asset portfolios, even This is the profound challenge of our Also, as insurers continue to invest in though in the long run it is desirable to times, which Mark Carney poignantly natural hazard models and update them mitigate climate change. referred to as the ‘tragedy of the to incorporate climate trends and any commons’ and the ‘tragedy of horizon’ step-changes, they can make those The graphic below briefly considers so- (Carney 2015). models available for broader long-term called socio-economic tipping-points, risk assessment in infrastructure and although this is a relatively new area of adaptation planning. study (Kopp 2016).

Examples of possible triggers for a rapid shift Such triggers could be a catalyst for socio-economic or in climate change attitudes include: behavioural tipping points, reducing consumption and increasing sustainability: • Weather catastrophes cause shocking human tragedy and are solidly attributable to climate • Widespread shifts of diet and social rejection of food waste change and acceptance of lower carbon emitting options • Increasingly the public vote for political • Take-off of circular economy, as social conscience about leaders who champion climate action, and consumption and waste promotes reuse/recycling social wellbeing over other matters, such as • Falling costs of renewable technology accelerate roll-out, GDP growth competition and R&D in a virtuous cycle • Religious leaders galvanise a strong sense of • Public support to implement meaningful carbon pricing moral duty for urgent climate action which will then accelerate transition • An international media ‘hit’, such as a TV • Subsidies for decentralised renewable energy production series, that convincingly portrays the horrors of a 4°C world • Increasing awareness of resilience following extreme events, e.g. abandoning low-lying areas that flood • Emergence of eco-activism, and widespread frequently, or changing crops / agricultural practices or public sympathy for their actions climate migration The heat is on 35 Implications for Insurers and their Customers Insurability and Resilience in a Changing Climate

Modelling transition risk

To help institutional investors quantify and, where The ClimateWise modelling framework aims to assess the appropriate, reduce their exposure to transition risk in materiality of transition risk for infrastructure investment investment portfolios, various software tools have been portfolios and can be used by asset managers on top of developed by climate change advocacy groups, think-tanks their own risk modelling. Infrastructure investments were and private sector vendors. Two examples, both open chosen as a focus for this project, as these are particularly source tools, are frameworks developed by 2°C Investing vulnerable to transition risk from both a revenue and Initiative (2II) - a global think-tank developing climate risk cost perspective. ClimateWise have developed a three metrics and related policy options in financial markets; step framework (see below) that aims to, firstly, identify and by ClimateWise Insurance Advisory Council (“Climate the range of asset types exposed to transition risk and Wise”), a network of leading insurance organisations that opportunity; secondly, to define the potential impact of aims to align with, and support the principles of the Task transition risk at asset level (this will indicate investment Force on Climate-related Financial Disclosures (TCFD). options for asset owners and regulators to help improve the resilience of their investment portfolios); and, thirdly, to 2II are in the process of rolling out their SEI Metrics project, incorporate the impacts of transition into in-house asset which provides a portfolio test for listed equity portfolios. financial models. The model compares the exposure of a portfolio of stocks to a 2°C scenarios, mapped to specific asset classes and geographies, and with geography and stock market specific calculation outputs. Since its launch, some 2,000 portfolios have been tested for over 200 institutional investors, including asset managers, pension funds, insurance companies, banks, and sovereign wealth funds.

Figure 18 ClimateWise Transition Risk Framework The heat is on 36 Insurance Industry Responses Insurability and Resilience in a Changing Climate

Insurance Industry 4 Responses 4.1 Resilience, mitigation insurers have a vested interest in insurance protection and investing. supporting efforts aimed at curbing Regardless of the success of efforts and adaptation global warming and bolstering resilience. to contain emissions in future, both There is also a reputational incentive. As approaches will be needed to deal with We have highlighted earlier in the paper good corporate citizens we want to be the global changes that have already that climate change, among other seen to be playing our part in assisting been set in motion. major trends, is a major threat to the with this critical issue. As is currently yy Mitigation refers to measures that global economy and society as a whole. happening on a range of key topics, can minimise or slow the rate of long Therefore, our response should reflect including climate change. term climate change and will centre the risk. This may require meaningful on effort to curb emissions as the and potentially radical transformation Mitigation and adaptations are key principal cause of global warming. to our way of life and our approach concepts informing climate change yy Adaptation, on the other hand, refers to economic activity (to render both issues. Whilst governments’ primary to measures that can strengthen sustainable) if the worst consequences task must be to curb greenhouse gas the resilience of economies and of climate change are to be avoided. emissions, insurers will work with societies to the physical effects of As providers of protection products, as policymakers to support adaptation climate change (in temperature, storm well as major investors in the economy, and transition both through providing frequency, flooding and other factors).

Figure 19 Insured vs uninsured weather-related catastrophe losses, per region The heat is on 37 Insurance Industry Responses Insurability and Resilience in a Changing Climate

Options available to mitigate climate and can be as simple as moving location assist. It is important, however, to note change include phasing out fossil fuels or as complex as investing in adaptive that there are limits to the capacity of by urgently switching to low-carbon techniques/technologies. private sector insurers to absorb losses energy sources, such as renewable and climate change could strain this energy, and protecting and expanding Lowering sensitivity is one approach, capacity. forests and other “sinks” to remove such as building road surfaces that greater amounts of carbon dioxide from withstand higher temperatures, It is also worth noting that these risks the atmosphere. Energy efficiency will building in heat resistance or building may have financial implications for the also play a role, for example, through defences to protect against sea-level insurers’ own operations (including improving the insulation of buildings and rise. Alternatively, it is possible to build impacts on own premises, operations, encouraging people to accept a wider adaptive capacity, such as raised living supply chain, and employee safety) as variances in temperature so reducing quarters or building on stilts. Behavioural well as for its own insurance portfolio. heating and cooling needs. Insurers can shifts such as individuals using less support these mitigation efforts through water and farmers planting different their underwriting activities and also crops is an important part of adaptation. through their investment activities. It is also possible to take advantage of opportunities arising from climatic As major institutional investors, changes, such as growing new crops in insurers have significant influence over areas that were previously unsuitable. companies and can encourage them to switch to less carbon intensive The insurance industry helps through operations (for example, through its mutualisation and shock absorbing involvement in organisations like the capabilities for major risks, its abundant Climate Action100+ initiative), and data information and abilities to analyse improve transparency through improved such data. The power in this data is disclosure. Insurers can take more achieved by raising awareness with the direct steps to curb global warming public, governments and corporations. by disinvesting from sectors and/or Influence is also possible through the businesses that are seen as heavily way insurance and reinsurance products polluting. A number of prominent are designed and in the way claims insurers have made public commitments are fulfilled. For example, seeking to limit support and investment in carbon suppliers who reduce delivery miles, or intensive industries. giving the customer options to move to lower emitting replacement goods. As noted, adaptation measures can Developing public/private partnerships reduce vulnerability to climate change and building pooling options would also

Economics of climate adaptation

Major climate-related natural catastrophes such as storms, The good news is that up to 65% of climate risks can be floods, droughts and other extreme weather events can averted. However, this needs quick and joint action by threaten cities, regions and entire nations. Losses from both the public and private sector. Only by combining risk natural catastrophes are rising, as wealth accumulates in the prevention, risk mitigation and risk transfer measures as part world’s most exposed regions and the climate continues to of a comprehensive adaptation strategy, will communities change. become more resilient to the impacts of climate change.

The ECA outlines a framework for decision-making that The insurance industry is at the forefront to support such identifies significant potential for cost-effective adaptation climate adaptation measures. As an example, the private measures (ECA, 2009). They present a practical framework sector advisory group for the Green Climate Fund has that national and local officials can use to quantify the proposed to involve the private sector in climate adaptation. risk that climate change poses to their economies, and to This includes focusing on risk transfer instruments, minimise the cost of adapting to that risk. which includes insurance as a financing modality. Such instruments will be aimed at addressing ‘residual climate- induced risk’, where physical adaptation measures may not be feasible and/or make financial sense. The heat is on 38 Insurance Industry Responses Insurability and Resilience in a Changing Climate

Insurers are therefore amongst those with the greatest incentives to understand and tackle climate change... And your response is at the cutting edge of the understanding and management of risks arising... Your genius has been to recognize that past is not prologue and that the catastrophic norms of the future can be seen in the tail risks of today. Mark Carney, 2015

4.2 Supporting societal locks fitted for security purposes, or There is also the obvious steps of reduced life insurance premiums for non- managing our own operations to be as change - a social role for smokers. In some cases, influence has low in carbon impact as possible. the insurance industry been simply achieved by sharing claims data held by the insurance industry, Interaction with government and other Reinsurers, insurers and brokers have in part to shift public perceptions. As public bodies has been effective in been influencing public policy, public already mentioned being an active the past in influencing regulation and perceptions and consumer behaviour institutional investor or considering how legislation, and working in partnership since the first recorded modern style funds are invested can also influence or to find solutions to complex problems. insurance sale in Edward Lloyd’s Coffee assist in driving change. For instance, the UK government has House in 1688 London. In part this has engaged with the insurance industry on been through policy wordings with the The insurance industry is in the position investment in flood protection measures use of exclusions and open pricing to choose whether to take an active and in joint ventures, such as pooling, improvements, but also through direct position in mitigating global warming to provide protection for high risk influence on customer actions. One not only for the industry, but also to properties. Public health is another area notable example being in California support society as a whole. Utilising the where the insurance industry has striven in 2004 where Insurance Institute for full range of mechanisms available to to have its voice heard through the Business & Home Safety issued leaflets insurers in order to do so. As mentioned provision of policy suggestions backed to high risk homes encouraging the elsewhere in the paper, this includes by claims data. undertaking of protective measures taking appropriate pricing actions, against wildfires. Further examples managing policy wording, influencing While the insurance sector can be an include widespread use of risk surveys claims spend such as making greener important agent for change, firms need and risk advice in Commercial lines, the alternatives available, managing assets to be careful to manage the external introduction of a no claims discount, and investments, and utilising data and reputation and communications reduced pricing for homes with window experience to inform public opinion. so as not to be misunderstood or

Why not whiten the sky (geo-engineering)?

A seductive alternative to weaning the global economy off fossil fuels is to offset the warming by deliberate cooling. One idea is to spray a thin veil of sulphate particles into the upper atmosphere (above where most clouds form). This is technologically feasible and relatively affordable. However it carries major perils and moral hazards:

‘Two wrongs don’t make a right’ ‘You can’t put the genie back in the bottle’ • It may cause drying of tropical / sub-tropical regions, as • High dependency and termination risk: with high CO₂ happened after massive eruptions (the ‘Pinatubo Effect’). levels, the world will warm very fast if the aerosols are not • It may act as a catalyst to destroy the ozone layer faster. maintained, creating a ‘sword of Damocles’ for millennia. • There is no ‘control’ planet, so we cannot test for • It appears to buy time, but in reality it subverts any unintended health, ecology or weather risks. impetus to act on emissions. • The approach doesn’t stop CO₂ acidifying the oceans, • To be effective a globally coordinated activity would be potentially catastrophic for marine life and fisheries. required and it is doubtful there will be the political will given the risks. • The sulphates would only stay in the atmosphere for approximately a year before returning to earth so this is • Even if outlawed, ‘rogue’ states may go ahead, with not a one-off action but a regular activity. global consequences. The heat is on 39 Insurance Industry Responses Insurability and Resilience in a Changing Climate

misconstrued. It is important when In responding to climate change, 4.3.2 Investment considerations taking a public stance on a high-profile insurers not only need to consider In the investment process it is essential topic to consider all the reputational how best to support their customers to define a clear strategy incorporating angles and how a message may be in the protections it provides but also expected climate change factors, as interpreted, especially if it proves to be how to invest its assets to maintain well as short-term and long-term targets out of step with public opinion or if the financial stability. Evaluating the right that the insurance company wants to message is misrepresented to look like investments, using carbon impact as achieve. self-interest rather than for society as one of the measures, will be essential intended. Also the industry cannot be to helping direct change and support Insurers’ needs in relation to investing seen to be in conflict with consumer investment in mitigating activities. ESG are not purely driven by the need for autonomy or to impact on the fair integration is one aspect of responsible investment return. Matching capital and treatment of customers. investing that specifically lends itself maintaining low risk to give confidence to climate change. This is where in the matching of assets to liabilities A key area where insurers can drive environmental, social and governance is critical so is often the biggest driver change is through claims fulfilment. factors are integrated into investment of investment strategies. Fixed Income Replacing insured goods with more decisions. instruments are a natural match for the energy efficient solutions is one potential long-term liabilities of an insurer and it is option. Another is to allow customers to Impact investing enables an investor to unsurprising that this asset class makes part fund replacement, for instance to pro-actively influence climate mitigations up approximately 80% of the average choose a more energy efficient vehicle in the real economy through investing in insurers’ asset allocation. At the other rather than direct replacement or to add sustainability-themed investments. end of the spectrum, venture capital is energy efficient solutions into property often too risky and is therefore rarely rebuilds. The cost to insurers would be As explained in chapter 2.4, investors included in the asset allocation of an the same, but a more climate friendly also need to reactively consider the insurance company. solution would be achieved. impact of underlying risks from climate change on their portfolios. However, there are strategies that Overall the most important social role of an insurer can explore to mitigate insurers is providing protection to their climate risks whilst profiting from the customers. Sustaining financial stability Pricing climate opportunities of a low carbon and and providing protection products to the resilient economy. Mitigating the effects insurable remains the key objective of all change risks of climate change on a given portfolio insurers. It is key insurers manage the can mainly be achieved through challenges ahead, on behalf of all. Climate change risks are currently proactive climate/ESG integration. not always correctly priced by Investing proactively to play a role in 4.3 Tackling climate risks the markets due to asymmetric mitigating climate change on a global information, short termism and level can mainly be achieved through through investments unclear regulation, which bears impact investing. not only investment risks but also 4.3.1 Introduction opportunities. For example, carbon Additional data and tools are currently Insurers must hold assets not just is priced in 39 countries and in 23 required to raise awareness among to cover expected claims, but also jurisdictions across the world. These investment professionals. With time, a unexpected larger claims, and be able to prices are the basis for carbon growing set of accurate and material absorb adverse results from any asset- taxation and emissions trading data will help investors to identify both liability mismatch (where investment systems (the first one started in the risks and opportunities created by portfolios do not closely match EU in 2005). Alas, carbon prices the transition and phyical aspects of insurance liabilities). This additionally currently cover a very broad range, climate change. Appropriate training necessitates that, when insurers hold from US$1/tCO₂ in Mexico (carbon of investment analysts and portofolio more risky investments, they must have tax) to US$140/tCO₂ in Sweden managers will help to price those risks more capital to protect policyholders in (carbon tax), making it difficult to and opportunites appropriately and the event that the riskier investments apply a global standard, let alone to support integration of these factors lose value. Investment Management calculate with a consistent shadow into investment strategies. Revaluing must determine the best combination price. This is exacerbated by the assets to their proper ESG integrated of risk factors and assets to maximise fact that accurate data for physical risk-adjusted values provides an holistic risk-adjusted return and to ensure assets risk is not yet very prevalent and base for asset selection considerations match liabilities. hence underrepresented in financial and will be reflected in decisions to buy/ analysis (World Bank 2016). sell, or overweight/underweight a certain security or asset. The heat is on 40 Insurance Industry Responses Insurability and Resilience in a Changing Climate

In order to support investors in their The mitigating activities mentioned in activities that can be easily evaluated climate change risk integration journey, this chapter are non-exhaustive options against impact objectives. A closer the sustainable investment community and examples. Every insurance company relationship between investor and is diligently developing new data sets, needs to assess and implement investee also makes it easier to use literature and measures. Prominent measures within their own parameters innovative approaches, such as impact examples are UN Principles for (e.g. overall company values and reporting. Particularly in emerging and Responsible Investments, Cambridge strategies, georgraphic focus areas and high-growth economies, private equity Institute for Sustainability Leadership customer base, or other sustainablity is often the only capital available to fund and 2degree Investing Initiative. targets) and according to their SAA. growth. Reporting climate change risk exposures through the voluntary TCFD framework, The potential direct investment Blended finance is expected to improve the data set opportunities that support climate High capital requirements for climate available for ESG rating companies to change mitigation are as follows. change mitigation require innovative support these developments. solutions. In recent years, so called 4.3.3.1 Summary by asset class “Blended Finance” has attracted 4.3.3 Impact investments increasing interest. This approach allows Impact investments can be defined Fixed income an investor to blend small amounts of as investment opportunities that allow Green bonds (Climate bonds): The public concessional funds with private an organisation to target a specific unique characteristic of green bonds, sector commercial funds to finance positive social or environmental impact. over conventional bonds, is the pre- first-of-a-kind projects that provide It allows companies to measure the defined link to investments in specific high development impact and strong social or environmental impact alongside ‘green’ projects that allow the bond potential, but are yet to establish a profitability, so achieving dual objectives. issuer to report a clearly defined result commercial track record. In this way or impact. The Green Bond Principles, private sector money, and hence As mentioned previously, mitigation is an industry code produced by the insurance capital, can help to close cheaper than adaption; therefore an International Capital Markets Association the investment gaps for low-carbon insurers’ mitigation focus should be (ICMA), specify standards and criteria energy, transportation, and agriculture primarily on transition risk and after that for Green Bond designation. The ICMA projects. This is particularly valuable on physical risk. An insurer can actively have set voluntary process guidelines for the developing world so they can pursue direct mitigation strategies in for transparency and disclosure, which achieve the characteristic instituationally line with the industry opportunities and promote integrity in the development of investors need to be able to invest. restraints with impact investments. the Green Bond market.

Insurance companies may consider Private debt impact investments to help increase Private Debt, whether investments in energy efficiency, generate renewable green technologies for fighting climate energy or mitigate climate change and/or change (ie avoiding GHG emissions protect the environment in other ways. through upgrades in housing, transport, Through impact investments, positive agriculture etc.) or investments in Green outcomes may be targeted in two main and/or energy saving infrastructure, can ways. support efforts to reduce greenhouse yy Mitigating environmental risks by gas emissions, support adaptation and supporting a low-carbon economy mitigate climate change. and encouraging environmentally- friendly technologies. Real estate yy Increasing community resilience Improvements in real estate can also be by helping to build ‘community implemented in an investor’s direct real capital’ and addressing the needs estate portfolios, through investment, of populations that lack traditional but especially refurbishment and means to achieve such goals (the development activities. ‘under-served populations’). Private equity Impact investment opportunities exist In many ways, private equity as an asset across various asset classes and across class is particularly suited to impact a spectrum of investments. Although this investing: the companies receiving should always be in accordance with an capital from private equity investors insurer’s own Strategic Asset Allocation usually tend to be small and agile, and (SAA) strategy. engage in a more limited number of The heat is on 41 Climate Related Financial Disclosures Insurability and Resilience in a Changing Climate

Climate Related Increasing transparency makes markets more efficient, and economies Financial more stable and resilient. Michael R. Bloomberg, 5 Disclosures Chair FSB TCFD 5.1 Towards better climate taking steps to manage them. In this Financial Stability Board (FSB) formed a way climate change is just another risk Task Force on Climate-related Financial disclosure that needs to be managed, alongside Disclosures (TCFD) with the brief to draft all other risks. Disclosure is one vehicle a voluntary framework for companies to The insurance sector has been used to give investors and regulators develop more effective climate-related tackling climate change risks and the comfort they require. Going forward, financial disclosures through their opportunities for several decades and stakeholders are likely to expect a existing reporting processes. has developed related products, while higher granularity of disclosure regarding continuously updating and monitoring climate-related risks and opportunities This had the aim of tying together its risk understanding and modelling on both insurance liabilities and assets. existing, disparate disclosure capabilities. approaches. The work and framework In order to make disclosures meaningful of the TCFD had tremendous impact on Stakeholders, including investors and investors require more insightful the debate. As a consequence, climate regulators, want to know companies information that is more clearly presented disclosure expectations have started understand their exposure and are than today. To drive this, the G20’s to trickle into investee engagement

Figure 20 Recommendations and supporting recommended disclosures (FSB TCFD, 2017) The heat is on 42 Climate Related Financial Disclosures Insurability and Resilience in a Changing Climate

(e.g. ClimateAction100+) as well as into financials, including expenditures, ‘The risks and opportunities in scope are regional debate and frameworks (e.g. EU revenues, assets and liabilities, capital described in Figure 21 with supporting Action Plan for Sustainable Finance). and financing. recommended disclosures. This outlines TCFD recommendations for how It is clear that there are a variety of Insurance related transition risks companies should structure reporting challenges associated with measuring referenced by TCFD include climate- against the risks and opportunities from and disclosing information on risks and related litigation risks, shifts in climate change (TCFD, June 2017). opportunities related to climate change. technology and market shifts, and However, reporting climate-related opportunity risk due to emerging In their status report from September issues in mainstream financial filings and insurance products arising from new 2018, the TCFD reviewed disclosures reports allows practices, techniques and technologies. Transition risks also arise in different industries to get a picture third-party providers to evolve gradually from structural shift leading to stranded of most recent reporting practices. and more rapidly. The TCFD framework assets. The report shows that the majority of has already reenergised a number of companies assessed already disclose high-profile sector working groups. 5.2 Accountability and information that is aligned with certain elements of the four pillars of the TCFD Improved transparency helps inform measurement recommendations. To date, much efficient capital-allocation decisions, of the information provided has a The TCFD framework foresees disclosure better pricing of risks, and stringent qualitative nature, only few companies along four pillars, which shed light on and efficient regulatory supervision and disclose the potential financial impact how a company identifies, assesses and policy-making. In June 2017 the Task of climate change on the company. In manages the risks and opportunities Force emphasized the importance of the insurance sector a small number of arising from climate change, as per transparency in pricing risk, including companies have started to report details Figure 20. risk related to climate change, to support on the TCFD recommendation. yy How does the Board and informed and efficient capital-allocation Management govern climate change? decisions. The TCFD recommendations This paper recognises the power yy What are actual and potential impacts identify climate-related physical risks of disclosure and sees the TCFD of climate change on the company’s as being one of the two main types of principles as a positive step in increasing strategy and financial planning? risks that corporates should disclose. transparency and understanding. yy How does the company manage the They distinguish between acute (event- risks and opportunities? driven) and chronic risks (those due to yy What metrics are used to assess and longer-term shifts in climate patterns), manage it and what targets are in recognising that physical risks may place? affect all and any part of a company’s

Figure 21 Climate-related risks, opportunities and financial impact (FSB TCFD, 2017)

The heat is on 43 Climate Related Financial Disclosures Insurability and Resilience in a Changing Climate

We believe that financial disclosure is essential to a market-based solution to climate change. A properly functioning market will price in the risks associated with climate change and reward firms that mitigate them. As its impact becomes more commonplace and public policy responses more active, climate change has become a material risk that isn’t properly disclosed. Bloomberg / Carney (2016)

5.3 Challenges and ways With emerging taxonomies5 and tools6 many implications for all major sectors. disclosure becomes easier. As an example, the electrification of ahead sectors, e.g. in the transportation Climate-related opportunities need more industry together with autonomous The aspects of climate change consideration in disclosure as products vehicles and maybe falling figures for described in the sections above develop. Natural catastrophe and other car ownership towards public transport/ are areas where disclosure will be specialised weather-related protection sharing will impact motor business and reasonable but particularly challenging. products (including parametric products) induce a shift of lines of business, with Understanding the risk profile of a can be considered part of climate action. new business opportunities but also the company due to climate change is a real As can any advisory services on climate loss of prior business. challenge and one that goes beyond resilience, including assessment of modelling. This will need to be an area of climate risks and related risk mitigation Abrupt shifts in market sentiment could focus if disclosure is to be meaningful. considerations. also pose impacts in the shorter term triggered by new regulation or by the Physical risks and related Transition risks and related occurrence of landmark physical risk business opportunities business opportunities events. Currently, disclosure on physical risks To date, disclosure on transition aspects is mostly constrained to describing is mostly restricted to narrow view, such The disclosure on the investment side modelling procedures, known top as green energy and coal, but a more has seen more quantified approaches risks, and measures of next-year’s coherent picture on transition risks and already, with methodologies and tools expected natural catastrophe losses. opportunities is needed. This can reflect being published, like the ones from Opportunities are mostly articulated wider aspects of technological and the EU-funded Energy Transition Risk via case studies on new business market shifts. Like the shift away from project or Sustainable Energy Investment segments. Quantified information on risk established (high-carbon) technologies Metrics project. impacts, businesses operational risks with well-known loss patterns to or information on topics like affordability emerging technologies with new loss and insurability of insurance are not part patterns. This does not restrict itself to of mainstream disclosure. the energy sector as the transition has

5 Such as the EBRD-hosted industry working group on a taxonomy of physical climate risks, refer to https://www.physicalclimaterisk.com/ 6 Such as asset-level data bases, refer to https://assetleveldata.org/ The heat is on 44 Insurability and Resilience in a Changing Climate

The challenges currently posed by climate change pale in significance compared with what might come. The far-sighted amongst you are anticipating broader global impacts on property, migration and political stability, as well as food and water security. Mark Carney, 2015 The heat is on 45 Conclusion Insurability and Resilience in a Changing Climate

Conclusion

In preparing this paper, we have been struck by the strength As this indicates, insurers are in a unique position not only of evidence of the pace and effects of climate change and to protect society and the real economy against the many the precarious situation the globe finds itself in. It no longer risks associated with climate change but also to support appears to be a question of whether global warming will have society in transitioning and adapting. This includes support material impact this century, but how much irreversible damage for existing products, innovating new products (such as for will have been done before sufficient action is taken. A massive the sharing economy or supporting timber construction) and and globally coordinated response is required to mitigate managing investment portfolios in a way that protects the these risks, as highlighted in IPCC SR15, enabled by radical assets underlying the business but also in providing capital for economic and socio-cultural change. Insurers have their role to mitigation and adaptation. play, not only in the interests of society but also in the strength and resilience of our sector. To utilise this unique standing that insurers have will require working with customers, industry and governments. With The biggest threats arise from physical risks affecting both the customers our risk management knowledge can be used to Life and P&C sectors and will worsen as temperatures rise. The inform and direct behaviours in ways that support societal primary threat is weather catastrophes of flooding, heatwaves, change. With industry and governments we can apply insight drought and wildfire, but also threats arise through the risks and capital to building low carbon-intensity infrastructure to of pandemic, water borne diseases and general human help mitigation/adaptation. We can influence government wellbeing. The human toll is likely to be greatest in developing policy in key areas and provide innovative financial solutions, nations, while major economic impacts are likely to be felt in such as risk pooling. due course in leading economies such as those in Europe and North America. As investors we can look to influence the organisations we invest in and work with (such as suppliers) to drive better The tough changes needed will create transition risks, behaviour and disclosure of climate related risks. As an assuming public concern rises to such a level so as to support industry, insurers can take a lead in disclosing such risks by radical action to curtail emissions and strive for a sub-2°C following the framework provided by the FSB through the scenario. If tough transition action is not taken, the ultimate TCFD. Whilst this disclosure is voluntary it is only through economic and human impacts from the physical impacts will disclosure that greater understanding of the economic risks be far more severe. The transition risks will be manageable and transparency will arise. for institutions that are well prepared, and alongside the risks, transition opportunities should arise from changes in society The heat is on. The time for action is upon us. The climate is and technology used to support low emissions and carbon changing and we have a clearer view of how bad the impacts capture. could be and what needs to be done. Failure to act now will have repercussions for the whole of society including People and corporations have always faced uncertain futures future generations. Insurers want to play their part, preparing and they will continue to take business risks and invest. themselves and working with society to help everyone ready Insurers have over the past 300 years supported people and themselves for the physical and transition risks ahead. corporations to take risks, helping them undertake large and challenging projects. The investors retain the risks around business success; the risk of volatility from external causes is the territory of insurance. Insurance has an excellent track record from its early days enabling marine shipping, or more recently building renewable energy plants and the construction of more environmentally sustainable structures such as the Freedom tower. Insurance is well equipped with its tools, risk management practices and cost-efficient capital to cope with uncertainty and risks of adverse outcomes. It’s not modelling or risk awareness, but true risk transfer which have made and will continue to make the difference. The heat is on 46 Appendix Insurability and Resilience in a Changing Climate

Appendix Concentration pathways and scenario definitions

Over the years the scientific community economic circumstances driving them. the same pathway. Those selected were has been devising the best possible A further step, involving “Shared considered the most representative instruments to help understand Socioeconomic Pathways” (SSPs) among all those possible to investigate and estimate the possible future completes the picture by introducing the the effects of GHG concentration levels consequences of climate change. impact of social and economic drivers, until the end of the century. and should be ready for the next round Among the main actors involved in this of IPCC analyses. SSPs will explore RCPs are classified in terms of radiative process is the Intergovernmental Panel if and how the paths indicated by the forcing, which in IPCC AR4 was defined on Climate Change (IPCC), a scientific RCPs can be achieved by society. as: “a measure of the influence a factor body set up by the World Meteorological Together, RCPs and SSPs should allow has in altering the balance of incoming Organisation (WMO) and the United for a parallel approach in incorporating and outgoing energy in the Earth- Nations Environmental Programme research, and thus enabling a quicker atmosphere system and is an index (UNEP). Since its foundation, it was integration of the latest science in the of the importance of the factor as a entrusted to coordinate, collate and reports being produced. potential climate change mechanism”. elaborate the corpus of scientific In this report radiative forcing values knowledge on the subject, providing Representative concentration are for changes relative to preindustrial the most current scientific views, the pathways explained conditions defined at 1750 and are possible associated impacts, and the Regarding RCPs, these are intended expressed in Watts per square meter. available mitigation and adaptation for the scientific community and not for So, RCP 2.6 refers to the increase strategies. the general public, hence the difficulty in energy absorption in the Earth’s in conveying in simple terms what they atmosphere that would be associated To achieve agreed targets, one of the stand for. with this scenario by 2100. main challenges faced by IPCC was to create a framework that allowed Each RCP is represented by a large Models and scenarios the scientific community to produce database containing the figures related While modelling outcomes based on research in a consistent and comparable to different GHG emission levels, with RCPs can be in the thousands (in way. At first, the path chosen involved details on geographical distribution and AR5 the IPCC ended up considering the creation of representative scenarios on how these variables change in time. approximately 1200 scenarios overall), (IS92, then SRES), which required These are the input values that should the RCPs themselves constitute a good researchers to follow a lengthy be used by researchers to conduct their synthesis of the main paths that could sequential approach to introduce analyses, so that they are comparable to be followed, and thus a good basis new findings. This approach is now what other teams are doing. for effectively identifying the major being superseded by the introduction Since a specific RCP only describes underlying trends in a simplified way. of “Representative Concentration a pathway in emission development, Pathways” (RCPs), to illustrate how it is not necessarily tied to a single Regarding models and scenarios, GHG concentration could develop in individual socio-economic scenario, a number of different approaches the future, irrespective of the social and since different mixes could all lead to are possible. One of the main ones is constituted by the climate, social Figure 22 Timeline of climate change assessment reports and models and economic models and scenarios coordinated by the IPCC. A second group uses energy system models and scenarios, such as the World Energy Outlook (WEO) devised by the International Energy Agency (IEA) or Bloomberg’s New Energy Finance (NEF) Energy Outlook, which provide estimations of future emissions by considering current and projected energy production sources. Further models and scenarios are developed by commercial firms or business organisations (e.g. the World Business Council for Sustainable Development, WBCSD). The heat is on 47 Glossary Insurability and Resilience in a Changing Climate

Glossary

Albedo Albedo is a measure of how much of the incoming solar radiation is radiated back (diffuse reflection). A bright surface (such as snow) has an albedo approaching 1, while a dark surface (such as open ocean or forest) has a lower albedo absorbing more heat.

Aerobic / anaerobic Aerobic means respiration in the presence of oxygen. Anaerobic is the reverse without the presence of oxygen.

AVOID2 UK government funded climate change research programme involving a multi-disciplinary consortium of UK research organisations. The programme ran from February 2014 to March 2016. The research undertaken provides scientifically-robust, policy-relevant answers to questions directly related to the Ultimate Objective of the UN Framework Convention on Climate Change (UNFCCC), which is to ‘prevent dangerous anthropogenic interference with the climate system’.

AR5 The Fifth Assessment Report (AR5) published in 2014 by the IPCC is the fifth in a series of such reports providing the science of climate change, emphasizing new results since the publication of the IPCC Fourth Assessment Report (AR4) in 2007.

BECCS Bio-energy with carbon capture and storage (BECCS) combines bioenergy use with carbon capture and storage. This technique uses trees and crops, which extract carbon dioxide from the atmosphere, as biomass in processing industries or power plants, which then uses carbon capture and storage techniques to stop the associated emissions going back into the atmosphere.

CCC Committee on Climate Change provides independent advice to UK government on building a low-carbon economy and preparing for climate change.

CCS Carbon capture and storage (CCS) is the capture of CO₂ from a point source, such as flue gas from a power plant or cement or steel works, compressing it to a liquid and storing it underground in geological reservoirs, typically a saline aquifer or depleted oil or gas field, so as to avoid adding to greenhouse gas emissions that drive global warming.

DACCS Direct Air Capture with Carbon Storage (DACCS) is a technology that uses chemical processes to capture CO₂ directly from ambient air. The CO₂ is then separated from the chemicals and is subject to CCS. The chemicals are then reused to capture more CO₂.

GHG A greenhouse gas is a gas that absorbs and emits radiant energy within the thermal infrared range causing the greenhouse effect. The primary greenhouse gases are water vapor, carbon dioxide, methane, nitrous oxide and ozone. Without greenhouse gases, the average temperature of Earth’s surface would be about −18 °C (0 °F), rather than the present average of 15 °C (59 °F).

GMST Global Mean Surface Temperature is the mean of the temperature measurements made over land and water across the globe, which are used as a standard reference to monitor temperature changes over time.

Greening This is where increasing CO₂ levels a warming planet are driving growth in plants across the globe. This has the effect of offsetting part of the increase of CO₂ levels in the atmosphere. Despite significant greening, this has not abated rising CO₂.

IEA The International Energy Agency is an autonomous organisation under the OECD framework. It advises on energy policy, provides research and data, and works to ensure reliable, affordable and clean energy for its 30 member countries and beyond. The heat is on 48 Glossary Insurability and Resilience in a Changing Climate

InsurResilience Global Partnership for Climate and Disaster Risk Finance and Insurance Solutions was launched at the 2017 UN Climate Conference with the aim of strengthening the resilience of developing countries and protecting the lives and livelihoods of poor and vulnerable people against the impact of disasters.

IPCC The Intergovernmental Panel on Climate Change (IPCC) is the United Nations body for assessing the science related to climate change. The IPCC was established in 1988 by the World Meteorological Organisation and the United Nations Environment Programme to assess scientific, technical and socio-economic information concerning climate change, its potential effects and options for adaptation and mitigation.

RCP A Representative Concentration Pathway (RCP) is a greenhouse gas concentration (not emissions) trajectory adopted by the IPCC for AR5 in 2014. Four pathways have been selected for climate modelling and research, which describe different climate futures, all of which are considered possible depending on how much GHGs are emitted in the years to come. The four RCPs are labelled after a possible range of radiative forcing values in the year 2100 relative to pre-industrial values (+2.6, +4.5, +6.0, and +8.5 W/ m2).

SEI Metrics project European Commission funded Sustainable Energy Investments (SEI) project focusing on metrics, benchmarks and assessment tools for the financial sector. The objective of the project is to measure the investment portfolios with climate related energy transition goals and seek to shift capital towards sustainable energy and energy efficiency investments.

SR15 An IPCC Special Report on the impacts of global warming of 1.5°C above pre-industrial levels compared with 2°C. It was commissioned in 2015 at the time of the Paris agreement, and published in October 2018.

Thermocline A thermocline is the transition layer between warmer water at the ocean’s surface and the cooler deep water below.

TWIA Texas Windstorm Insurance Association provides wind and hail insurance to 14 Texas gulf coast counties a portion of Harris county.

WEO The annual World Energy Outlook is the IEA’s flagship publication, widely recognised as the most authoritative source for global energy projections and analysis. It represents the leading source for medium to long-term energy market projections, extensive statistics, analysis and advice for both governments and the energy business. It is produced by the Office of the Chief Economist.

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