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"Insure to Assure: A New Paradigm for Nuclear Nonproliferation and International Security"

A security guard stands beside the entrance of the nuclear facility, FCN, Combustible Nuclear Factory in Resende, about 100 kilometers northwest of Rio de Janeiro, Brazil, on Oct. 19, 2004.
AP Photo

"Insure to Assure: A New Paradigm for Nuclear Nonproliferation and International Security"

Journal Article, Innovations, volume 4, issue 2, pages 139-155

Spring 2009

Authors: Erwann O. Michel-Kerjan, Debra K. Decker, Former Associate, International Security Program/Project on Managing the Atom, 2006–2011

Belfer Center Programs or Projects: International Security; Managing the Atom; Science, Technology, and Public Policy

 

"With large-scale disasters likely to be part of our future, and the potential for nuclear proliferation to cause such a disaster, can private market mechanisms such as insurance be structured to help avoid the disaster itself?

Until recently, few world leaders or thinkers would have pegged the accelerating rhythm of large-scale catastrophes as one of the greatest economic and social challenges confronting society. But one hallmark of this new century will be more and more such unthinkable events, previously unseen contexts, and pressure for individuals, private companies, and government authorities to react extremely quickly, even when they cannot predict the cascading impact their actions will have.

And we must think beyond financial crises: what about food security, intercontinental pandemics, mega-terrorism, and cyber attacks? Think about global warming, and large-scale natural disasters, as well as new types of war, international security issues, and—as this article addresses—nuclear proliferation.We will face more of the same mega-crises in the future, as well as brand new ones. Dealing with an average of one or two such catastrophes every 20 years is one thing; dealing with 10 or 15 on many different fronts simultaneously, as is currently occurring, is a whole different game. This poses a real challenge: how do we think collectively about these possible extreme events far in advance so we can manage them before they occur, and create the foundations for a more resilient society?

Some important questions arise when we think about assuring resiliency: Who should pay for the economic consequences of future catastrophes? What financial solutions can be developed ex ante to provide coverage against (and dispel!) some of the aforementioned global risks? What are the roles and responsibilities of the public and private sectors?

Insurance has historically played a critical role in providing financial coverage to people and companies against possible losses that would be too large for them to support. By paying a relatively small premium, we transfer our risk to the insurers who have a much larger financial capacity to absorb this loss and who can diversify the risks more broadly. Although insurance is today one of the world's largest industries, over the last several generations, as catastrophes have unfolded, the public has also come to expect more and more from governments in managing these catastrophic risks.

This is particularly true in the United States. In his insightful book, When All Else Fails: Government as the Ultimate Risk Manager, Harvard University's David Moss states that "risk management policies seem to occupy an unusually prominent place in America's political economy. A nation widely known for its anti-statist sentiments and its faith in limited government, the United States is nonetheless up to its elbows in risk management policies." Actually, a telling statistic is the evolution over the past 50 years of the number of U.S. presidential disaster declarations (which allow Congress to vote for federal relief): the number rose steadily each decade, from 162 over the period 1955-1965 to 545 for 1996-2005. And in just the few years from 2006 to 2008, nearly 200 disasters have already received this designation. The number relates not just to the disasters but also to the politics of disasters, as the number of declarations typically rises in presidential election years when voters are being courted.

 With governments clearly pressed to provide post-disaster direct aid, they have realized the need to intervene pre-disaster to support public interests. One way they have done this is by supporting insurance mechanisms. Governments have developed these supports because private insurance markets either do not have the financial capacity to cover the extent of the catastrophe risks and/or because risk premium market pricing has not provided what buyers consider to be adequate levels of insurance at acceptable prices; that is, it is not seen as affordable. Some examples include:

Hurricane risks in Florida: These are covered by private insurers and by a state-run company, Citizens, with Citizens now representing more than 30 percent of the market. All benefit from extremely advantageous reinsurance from the state-run reinsurer, the Florida Hurricane Catastrophe Fund.

Earthquake risks in California: Insurance is provided through the California Earthquake Authority, which is a risk-sharing arrangement between private insurers and the state.

Flood risks in the United States: The federal National Flood Insurance Program began in 1968, in response to the belief that flood peril was uninsurable by the private sector alone. Private insurers sell insurance policies and settle claims on behalf of the federal government. The program covers over $1 trillion in assets today.

Nuclear accident risks in the U.S.: The Price-Anderson Act was passed in 1957 to partially indemnify the nuclear industry against liability claims arising from nuclear incidents while still ensuring compensation coverage for the general public. The first $10 billion is industry-funded; over that amount the federal government provides indemnification to victims. The Act was last renewed in 2005 for a 20 year period.

Terrorism risks in many countries: In the post-September 11, 2001 environment, insurance against terrorist attacks in most developed countries is now also provided through a collaboration between private insurers and the government, with some type of backstop. Examples are inexpensive government reinsurance (e.g. Extremus in Germany, Gareat in France, Pool Re in the United Kingdom) or free reinsurance in the United States, where commercial enterprises can be covered under the Terrorism Risk Insurance Act (TRIA) for total industry losses up to $100 billion per year.

Third-party liability for commercial air carriers worldwide: Such insurance is now also provided through collaborations between insurers and the government in most countries worldwide.

So, as risks are getting larger and more frequent, new types of collaborations have emerged to provide financial protection. They almost always involve both the private markets of insurance and reinsurance (the insurance for insurers) and the public sphere. Insurers provide important strengths, including their networks, their expertise in risk quantification and risk underwriting, and their quick claim settlements.

In addition to supporting risk insurance, another way that government has interceded pre-disaster is by leveraging its "convening role" to induce industry to consider systemic risks and to develop agreements around preparedness standards. In the United States, pursuant to public law and presidential directive, federal departments and agencies, working with state and local governments and the private sector, identified critical infrastructures and key resources where improved risk management is in the national interest. Industry sector coordinating councils were then established to partner with government coordinating councils to better manage risks. Also, in 2007, U.S. law mandated the development of voluntary private sector programs in preparedness accreditation and certification; coordinated through the U.S. Department of Homeland Security, such programs could affect investor preferences and reward the better prepared businesses.

Governments have clearly developed a role in insurance and planning when selected interests are affected. But they have not yet fully explored the role they could play in solving some of the most vexing public issues by supporting the development of new market products or techniques. Often the problems are complex and require innovative public-private sector solutions. One such problem is a rather arcane but real one that may occur as demand grows for nuclear energy: the risks associated with the expansion of nuclear fuel enrichment and potential weapons proliferation. While much effort has been spent in the past decades to manage nuclear proliferation risks, we believe it is time for the private insurance sector and governments around the world to work together to provide additional security in areas they have not addressed before...."

 

For more information about this publication please contact the ISP Program Coordinator at 617-496-1981.

For Academic Citation:

Michel-Kerjan, Erwann O. and Debra K. Decker. "Insure to Assure: A New Paradigm for Nuclear Nonproliferation and International Security." Innovations 4, no. 2 (Spring 2009): 139-155.

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