Emergency measures needed to prevent climate insurance gap, says actuary expert

June 13, 2024|Written by

Insurance companies and policymakers are likely not adequately accounting for climate change risk in their models, Sandy Trust, former chair of the Institute and Faculty of Actuaries (IFoA) sustainability board, told Green Central Banking.

Trust, who co-wrote a report from the University of Exeter and IFoA on global tipping points, says climate scientists and policymakers alike have probably underestimated the climate’s sensitivity.

“If we’ve under-underestimated climate sensitivity, or perhaps we are in a tipping point currently… then that means we are more likely to get more warming than we bargained for more quickly,” he says.

The world needs to quickly transition, and to do that governments need to push for emergency level policies which has not happened at the scale that is needed.

“I believe policy decisions [by lawmakers] are not yet emergency-level, and I believe that’s because policymakers don’t understand the risks so their economic models don’t capture tipping points,” he says.

Part of that reason may be a lack of communication on how bad the current climate risks are, which has been complicated by “misinformation and disinformation campaigns”. While people might think 1.5 or 2ºC doesn’t seem like much, it can trigger catastrophic weather events that could have devastating effects, Trust says.

There is also the psychological impact of facing such risks, even on a professional level.

“It’s scary. I’d much rather it wasn’t happening too. So if I can rationalise this as a freak event or the weather – it’s just more or less been happening anyway – that’s much easier,” he says.

Unfortunately, Trust can’t ignore the impact of climate change. The report he co-authored supports what other climate scientists have been saying, namely that the world is seeing more and more severe weather events.

That increase in extreme events is taking a toll on the insurance industry. Insurance claims from natural disasters cost insurers US$95bn in 2023. Many US insurance companies in areas prone to disasters have increased rates or, in some cases, even left.

“The question is, are insurance companies updating their risk model rules quickly enough to capture the changing dynamics of climate change?” asks Trust.

Insurance companies need to price risk adequately to reflect how much to charge. On the one hand, this helps them become profitable. On the other hand, they need to also hold more capital if their risk models increase.

“It’s a very difficult thing to know exactly how much risk to put into the risk distributions, how much to increase frequency… I’m not saying they don’t, but they need to have a very nuanced understanding of the way in which the risk [of climate change] progresses.”

If no one were to have insurance coverage, as the risk (and prices) increase, “I’m just not sure how that plays out because insurance is almost a lubricant for the economy”, says Trust.

If a large chunk of society is unable to access insurance because companies have withdrawn from high-risk areas, “that’s going to be incredibly disruptive”. Industry leaders and policymakers need to collaborate and implement strategies to address this insurance gap.

Ultimately, though, Trust believes actuaries, insurers and policymakers can learn from each other to accurately account for risk.

One of his solutions is for policymakers and insurers to use what he calls planetary solvency to account for risks to nature and ecosystems. It is the same tool in financial services risk management but instead applied to nature, he explains.

“The purpose of planetary solvency is to try to communicate the risk to policymakers so they have a more robust evidence base to take emergency policy actions to bring us back into a solvent situation,” he says.

Update, 13 June 2024: this article was amended to clarify the findings of the University of Exeter / Institute and Faculty of Actuaries report.

This page was last updated June 18, 2024

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