Mar 7, 2022 2 min read

How climate change will change the structure of insurance markets

Nature carried an article recently about climate change impact and the structure of insurance. Its key points were that risk pooling is a vital tool for mitigating that impact, and that insurers need to adapt to being part of a multi-stakeholder solution.

The article was about the work of Paula Jarzabkowski, a professor of strategic management at the University of Queensland Business School in Australia and at the Bayes Business School in the UK. She is a leading authority on building insurance structures for managing climate change-related impacts.

It highlights her work on secondary level climate events. These are natural events like hailstorms, floods, landslides, droughts and bushfires that have typically caused lower magnitude losses compared to large events like earthquakes or hurricanes. Now however, those secondary events and their losses are growing. The problem is that too often, the market response in countries like Australia is to price those risks higher or withdraw cover altogether.

Here in the UK, several years ago, we saw something similar happen around flood cover. And of course, many more countries are experiencing something similar.

“For me, insurance isn’t just some product that people buy, it’s fundamental to people’s livelihoods.”

In other words, access to insurance against such perils is a social and political issue as well as a business issue.  Jarzabkowski goes on…

“The knock-on effect is that it’s unaffordable, so large portions of the population choose to be uninsured or underinsured. That’s going to affect people in two ways; their ability to get a home loan, because you need insurance to get a mortgage, and their ability to repair their homes after a disaster. Eventually, the social costs of the uninsured often come to rest on government services.”

A Joined Up Response

So doing nothing other than let the market respond as it wishes to such risks is an option that politicians aren’t going to countenance. Jarzabkowski thinks risk pools - public-private partnerships where risk is shared by many relevant stakeholders - is a path forward.

“Risk pools involve parties, such as financial bodies, government bodies, commercial bodies, NGOs etc., pooling their resources to provide lower-premium insurance in recognition of the systemic knock-on effects if one part goes uninsured. This also incentivizes a more joined up approach to risk.”

The core message here is that the personalisation approach to insurance doesn’t work in all circumstances. The market for certain covers needs to be addressed before stratification begins to break it apart. It’s inevitable therefore that issues of fairness in relation to access and need have to be on the strategic radars of insurers. The social and the environmental are intertwined.

So is she just calling for more of what people in the UK know as Flood Re? Not quite. What she’s emphasising is more of a pro-active multi-stakeholder approach. I always had the impression that Flood Re was a reactive solution to a market problem, rather than a systemic response to a wider development.

What Insurers need to Think About

I think insurers can learn a number of things from Jarzabkowski’s work:

  • think more holistically about your strategic response to the changing risk climate.
  • personalisation is not the ‘be all and end all’ insurance structure, for the future is not just digital, but climate impacted as well. Personalisation is a social development that needs to be adapted to developments like climate change that, to be honest, are a lot more powerful.
  • the pooling of risk will not go away. It will always be needed, so insurers need to think about how personalisation and pooling can co-inhabit the same market.
  • it’s important to put the customer first, but sometimes it’s the peril through which you need to see them.

What Professor Jarzabkowski’s article got me thinking about in particular was the boundary area that exists at the interface of personalisation and pooling, and how the equality of fairness will dictate much of the discussion around how to handle it.

Duncan Minty
Duncan Minty
Duncan has been researching and writing about ethics in insurance for over 20 years. As a Chartered Insurance Practitioner, he combines market knowledge with a strong and independent radar on ethics.
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