4.1 FINANCIAL VIABILITY DESIGNING A COMPENSATION SYSTEM TO MEET L...

7.4.1  Financial  Viability  

Designing a compensation system to meet large loss scenarios can now be achieved more accurately

than even two decades ago when no probabilistic assessment models were available. Despite this,

many national flood insurance systems will, without the correct upstream risk transference in place, find

it difficult to finance a “once in one hundred year” flood event (Swiss Re, 2012). Global reinsurance

markets are able to permit insurers - public or private - to absorb the loss from this kind of catastrophic

flood by spreading the risk across borders. Expanding the risk community upstream in this way reduces

the impact of local correlated losses when they inevitably occur during a large flood. Public insurance

schemes can also make use of international risk spreading options and have the option of spreading

risks temporally (Jongejan and Barrieu, 2008). Risk can also be transferred downstream to the

policyholders through the use of deductibles (known as excesses in the UK), caps, and exclusions that

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allow insurers to adjust their portfolio to their individual risk appetite. New underwriting methods and

tools and risk transference mechanisms such as the issuance of catastrophe bonds (CAT bonds) or

improvements to building codes (to incorporate flood protection) could, in the opinion of Swiss Re, help

countries to more easily achieve the financial viability principle.

Comprehensive flood insurance in the Netherlands is said to be beyond the capacity of the private

insurance sector and therefore could only be insured by the state. The financial capacity of the Dutch

government is very high, though now it is a member of the Eurozone it would have to rely on borrowing

in international markets or from the European Central Bank in the event of a very large flood. Previously,

when it controlled its own currency and interest rates, it had more sovereign options to pay for

catastrophic damage than it does now. New underwriting methods and tools and risk transference

mechanisms such as the issuance of catastrophe bonds (CAT bonds) or improvements to building

codes (to incorporate flood protection) could, in the opinion of Swiss Re, help countries to more easily

achieve the financial viability condition.