Monday, December 5, 2011

The Insurance Industry and Sustainability


In short, sustainable business practices mean that companies (and the executives who run them) act in a socially responsible manner that considers the impact of its business practices on future generations, the health and well-being of consumers and employees, and the planet,  while at the same time remaining profitable. The insurance industry has a vested interest in embracing sustainability. The insurance industry is concurrently vexed  by the financial consequences of unsustainable business practices while having the ability to influence individuals and businesses to be more sustainable through the industry's  own underwriting and investment practices. Sustainability also offers this industry many opportunities for innovating risk management services and new insurance products.
An Industry Standing Downstream of the Financial Consequences of Unsustainable Business Practices
If  you examine the aftermath of unsustainable practices you will find that the insurance industry stands downstream of their consequences, footing the bill for climate change, environmental degradation, unsafe work environments, excessive debt, and shortsighted, self-serving practices by both corporate executives and public officials. For example, in recent years the insurance industry has paid out unprecedented claims for weather related losses ranging from monster typhoons like Hurricane Katrina , to a record number of deadly tornadoes. These storms have proven the sophisticated risk forecasting models, based on the past century of weather data, to be unreliable predictors of the true exposures faced by the industry.  The Casualty Actuarial Society noted that sustainabilty and climate risks are challenging for insurers to price. The failure to address climate risk has surfaced as a concern for shareholders liability claims in some countries. With respect to environmental degradation, in the past twenty-five years, the insurance industry has paid out over $50 billion in health, workers compensation, property and casualty claims, and litigation resulting from environmental hazards. Executives seeking short term profits at the expense of long term business viability are far more likely to lead companies to default on debt, suffer major cuts in bond ratings, and create massive layoffs.  The insurance industry pays for this through adverse health effects on employees and increases in frequency and severity of workers compensation claims. Seeking quick returns and skimping on quality control leads to  poorly managed outsourcing and higher product recalls and product liability claims. The economy plunged into a recession when the unsustainable and murky practices of lenders left key financial institutions holding the bag on worthless mortgages. In addition to the obvious impact on mortgage and financial guarantee insurers, the industry as a whole suffers when investment incomes fall. A significant portion of insurer profitability is based on the investment income earned by insurers from the time they take in premiums until the time the pay out claims. The implications of declining investment income are both profound and immediate. If insurers cannot rely on this income then they will need to earn more in premium through higher rates to compensate for lower investment earnings. Although this can be bad news for consumers, higher rates don’t always materialize  when more and more insurers move capital away from poor performing investments and into underwriting. This means that insurers compete for fewer (or at best a stable number of) policyholders, which leads to lower prices even while investment income declines. For this reason, the insurance industry benefits from transparent accounting practices, sound business practices based on long term growth and sustainable profitability, and a long-term, stable  securities market.

The Insurance Industry’s Role in Promoting Sustainability.  
As mentioned in the Motivation for Sustainability and Risk Management section, insurers have a role in helping to provide insurance products and risk management solutions for green products. Just as insurers historicallly had a constructive role in founding the first fire departments, building codes, and vehicle safety testing, they have now an opportunity to develop creative products and services to minimize the causes and effects of climate change.

"Insurers should offer greener businesses lower insurance premiums and adapt their products to encourage good corporate behavior", says the chief operating officer of the corporate risk unit of Aon Corp.
Speaking at the Assn. of Insurance and Risk Manager’s conference in Bournemouth, England, Andrew Tunnicliffe, chief operating officer of Aon Global Risk Consulting, said insurers have an important role in promoting good corporate citizenship by creating “influential insurance” products at reduced premiums or with green policy terms. “The insurance industry has the power to influence and create a greener society,” he said. Green insurance products could include reduced premiums and enhanced coverage for buildings constructed to withstand extreme weather events; pollution legal liability and remediation cover; specialist insurance for renewable energy projects; and health insurance products that reward healthy lifestyles, he said. “Embedding corporate social responsibility principles at the beginning of insurance product development has to become part of the way we work to support global businesses. Looking at where we can reduce premiums to encourage green technology or renewable power generation are just some examples of how we can implement CSR as part of our businesses.”
Posted On: Jun. 16, 2009 10:56 AM CST
BOURNEMOUTH, England—

The concept of sustainability is embedded in the insurance business through the practice of risk management and underwriting. The core function of insurance – to transfer risk – entails that the insurance industry plays a critical role in mitigating the adverse economic, social and environmental consequences of financial losses arising from fortuitous events. Perhaps the most succinct explanation for why insurers and reinsurers care about the issue of sustainability is stated by Swiss Re, “Sustainability is not just a nice-to-have for Swiss Re. Unsustainable trends threaten resources and potentially augment losses, which is why we foster the principles of sustainability with all our stakeholders.”

According to a 2007 United Nations Report entitled Insuring for Sustainability, sustainability should be an integral part of everything that we do. The U.N. Insurance Working Group (IWG) members identified nine global sustainability issues that are vital for this generation of insurers to consider due to their urgency, the scale of their potential impacts and the integral role that the insurance industry can play in dealing with them:

1. Climate Change (Note that there is one new post on just this issue of climate change and insurance)
2. Microinsurance
3. Lifelong Income
4. Health
5. Emerging Manmade Risks
6. Environmental Liability
7. Natural Resources
8. Recycling
9. Internal Efficiency


The interaction among these issues is described in detail in the U.N. report:


Swiss Re produces annual reports on Sustainability as it relates to sustainable value creation. Their 2009 report on sustainability was included in their Corporate Social Responsibility report. The report provides a good overview of the subject and the business reasons for having sustainable business practices touching on corporate goals such as:
  • Developing risk transfer solutions for emerging and developing countries;
  • Managing social, environmental and ethical risks in (re)insurance industry;
  • Promoting cost effective strategies to deal with climate change;
  • Reducing COc emissions and improving energy efficiency.
One Report writer William Baue reported on a summit of insurance industry executives representing over 30 companies, regulators, institutional investors, and environmental groups gathered to discuss sustainability and insurance and to search for common interests. The summit’s keynote address was delivered by Jacques Dubois, chair of the U.S. arm of reinsurer Swiss Re, which has garnered the reputation as a leader on sustainability through sponsorship of joint studies such as the United Nations Development Programme (UNDP) and the Harvard Medical School Center for Health and the Global Environment study entitled Climate Change Futures: Health, Ecological and Economic Dimensions. Swiss Re also co-sponsored the production of a film on climate change that aired in 2004 in Canada as The Great Warming and later aired in the U.S. on Public Broadcasting System (PBS) stations as Global Warming: The Signs and The Science.
Authors of the 2004 WestLB Equity Markets paper entitled, Insurance and Sustainability-Playing with Fire, give this reason for insurer involvement: “Given the dual role of insurance companies as investment vehicles and fiduciaries, their duty to take sustainability into account is particularly acute. The unique position that the insurance sector has in terms of sustainability topics is also revealed in insurers’ balance sheets, as both assets and liabilities are affected in interdependent ways. Thus, the leverage insurance companies stand to gain by incorporating sustainability topics is considerable.”

INVESTING IN SUSTAINABLE COMPANIES
The role of insurance companies as investment vehicles is signifcant as well. In 2010 the industry invested over $5 trillion in stocks and bonds. By making sure that their investments go to corporations that follow sustainable business practices the industry is in a position to help "pick the winners".
For example, Swiss Re assesses its corporate clients’ performance on environmental, social, and governance (ESG) issues before issuing director and officer (D&O) insurance. This assessment focuses on climate change risk management by examining companys’ responses to the Carbon Disclosure Project (CDP), which surveys how Financial Times 500 (FT500) companies handle emissions of greenhouse gases (GHG), the primary culprits of global warming.

Another company becoming involved is State Farm where agents are becoming hands on with sustainability.
“If the answers from our perspective are not sufficient, we talk to these clients and ask them additional questions,” said Mr. Menzinger in an article on one-report.com.
“Sustainability performance is a good proxy for risk management,” Mr. Menzinger told SocialFunds.com. “Every year, we have our own risk engineers comprehensively screen about 20 percent of our corporate clients, with environmental, social, and governance as part of that screening.”
If a company is assessed to be doing particularly well on their environmental, social, and governance (ESG) performance, then their premium would more likely go down, according to Mr. Menzinger. On the other hand, if the assessment shows they are a higher risk because they are not doing as good a job on their ESG issues, then it is more likely their premium would go up. “We started to include sustainability performance of our clients who are banks, assessing how they deal with sustainability, and depending on the outcome, we have less complicated or more complicated procedures in terms of accepting certain pieces of business,” explained Mr. Menzinger. “A leading sustainability performance track record alleviates us from investigating certain controversial activities.” “We are guided by our Group Code of Conduct where we have embedded our commitment to sustainability, which states that we prefer to do business with other companies that share beliefs and values,” said Mr. Menzinger.

 Other Examples of Insurer Actions Promoting Sustainability

Dr. Evan Mills at the University of California, has published a number of books and articles on the insurance industry and sustainability.

Some additional ways in which the industry supports sustainability includes:

* Participating in the UNEP FI Insurance Commission. This comprises leading insurers and reinsurers committed to systematically considering environmental, social and governance (ESG) issues in their business principles, strategies and operations. In 2006, UNEP FI established an Insurance Working Group to address current and emerging sustainability issues concerning the insurance industry in the context of financial performance and sustainable development.
* Participating in Climate Leadership Council.
* Investing in corporations that are improving their sustainability practices.
* Offering insurance discounts on hybrid cars.
* Agreeing to purchase clean, emission-free wind energy credits and seeking to become carbon-neutral.
* Establishing Environmentally Friendly Practices and Being Environmentally Responsible.
Publishing reports and alerting the proper authorities about public dangers such as dangerous intersections and potentiallly dangerous products.
* Supporting organizations such as The Insurance Institute for Highway Safety which analyzes insurer data to help prevent losses.
* Providing information and financial incentives for safe behavior that reduces risks in society.

New Insurance Products and Innovation

Another space where insurers are addressing sustainability is in product development. This has been especially prevalent with respect to property insurance. An AAIS article describes the different ways many companies are offering green property products.
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For example,
Ace INA Insurance offers green products. http://www.acegreen.com/products ranging from environmental loss control services to products that deal with reducing the financial risk of uncertain weather.

 FM Global, a large Commercial Insurer, filed for approval of a Green Endorsement, which will replace any damage with environment-friendly material and recycle the damaged sections for an additional premium. The premium was developed after studying the costs of green construction versus that of standard construction. (Effective Date September 16, 2008. (COMPANY FILING NUMBER AFFILIATED FM INSURANCE COMPANY FMGL-125739681 Mississippi ).

*Mutual Boiler Re introduced a “green” equipment breakdown coverage which pays costs such as repairing or replacing damaged property with green alternatives, hiring accredited green consultants to assist with green design and replacement; certification or recertification by recognized ‘green” authorities; green removal, disposal, and recycling of damaged property, and business interruption associated with green activities.

Lexington, an AIG company. has an edorsement that permits insureds to “Upgrade to Green” following a loss.

*DOMANI Sustainability Consulting, an executive management consultancy, and Garnet Captive Insurance Services, a designer of alternative insurance programs, have an alliance to create a captive insurance program designed exclusively for companies that are committed to sustainable business practices (i.e., purchase or generate energy from renewable sources; implement energy efficiency best practices; set targets for reducing environmental, etc.)

Liberty Mutual has intitiatives related to green building endorsements. The following described this in Risk and Insurance magazine

The below Case Study is part of a continuing series designed to highlight key products and services to our readers. This paid-for Case Study was written and edited by Risk & Insurance® on behalf of our marketing partner. Additional Case Studies can be found on our Web site at http://www.elabs3.com/c.html?rtr=on&s=f7g,zd45,171m,w5q,esta,4o3v,93wd.
Despite today’s troubled economy, the trend toward green commercial building continues to move forward. According to the 2008 Green Survey: Existing Buildings, funded by the U.S. Green Building Council (USGBC), Incisive Media and the Building Owners and Managers Association, more than 80 percent of commercial building owners have allocated funds for green initiatives in 2009.
Green buildings are designed to be more efficient in their use of energy, water and other resources and to create better working environments for their occupants. Despite the current economic environment and some perceived obstacles to green building, the benefits remain significant.
In addition to reducing energy costs and improving the health and well-being of occupants, green buildings have lower operating costs, higher building values and higher occupancy rates, notes Ann Butterworth, director of property underwriting at Boston-based Liberty Mutual Property. Green builders may also be able to take advantage of continued government incentives, such as tax breaks and abatements.
Even if a company is not yet going green, it can still benefit from green insurance coverage. In many cases, current insurance won’t cover the use of green materials if those products are priced higher than non-green materials unless the property owner has an endorsement to cover that risk.
“If you think you’ll be incorporating green materials, especially after a loss, you should look into the available coverage options,” says Butterworth.
There are two key certification organizations available for property owners looking to begin the green process. The U.S. Green Building Council’s LEED® (Leadership in Energy and Environmental Design) program and the Green Building Initiative’s Green Globes program provide third-party, independent, international certification of green building projects. While the cost of certification has often been cited as an obstacle to building green, many believe the return on investment far outweighs the initial costs.
“We’re seeing more companies getting involved in the green movement,” says Lucas Pfannenstiel, account engineer at Liberty Mutual Property. “While most state and local building codes don’t yet address green construction, we’re seeing interest in the development of a common standard that will make the process much easier to undertake.”
Liberty Mutual Property recently introduced a collection of new commercial property coverages designed for business owners interested in undertaking green building ventures. Liberty Mutual’s Green Select™ property policy endorsement was designed to give customers the coverage flexibility necessary to best protect their green investments. In the event of a loss to a LEED or Green Globes certified building, the policy would pay for the costs involved in upgrading to green-certified building products, the fees necessary to achieve the next level higher of certification, debris recycling, vegetative roofing systems and recommissioning costs. In addition, the policy would pay for a delay in operations if, after a loss, the upgrade or rebuilding of a green property took longer.
“Many insureds and prospects are asking, ‘do you have a green endorsement,’” says Butterworth. “A number of clients have come to us because we have this endorsement, even though they don’t yet have green buildings to cover,” she notes.
The demand for green building is currently outweighing the initial costs and concerns about yet-unknown risks.
Because many construction materials and green building techniques are relatively new, there is concern as to whether the materials will work as promised. Butterworth cautions about “greenwashing” – a play off the expression “white washing” – when consumers are potentially conned into incorporating so called “green materials” that do not meet certain standards.
“We encourage people to make sure the products being used are verified, validated and recommended for use by a reputable third-party certification and testing organization. We believe that commercial property owners who develop a practice of a systematic and collaborative design process throughout the green building project might ease some of the property, contractors’ and general liability coverage issues,” stresses Butterworth.
While the cost of using green products may initially be higher, green buildings are expected to provide less exposure to loss over the long term.
“We work with experienced contractors and engineers who are aware of the new electrical, plumbing and HVAC systems and regulations,” says Pfannenstiel. “We believe there will be less exposure and risk down the line due to the state-of-the-art equipment being used. We also value our relationships with risk managers and building owners who look for preventive measures and quality, who see green buildings as an advantage and who are actively looking to reduce their risk.”
Because the green building industry is so new, Liberty Mutual is continuing to do as much research as possible to collect data on the pros, and possibly cons, of going green.
“We’re gathering as many resources as we can to stay on top of the green movement,” says Pfannenstiel. “Our goal is to help our insureds understand the coverage and insurance issues, as well as the technical issues involved in green processes and green systems.”
It’s a work in progress, stresses Butterworth. “We want to make sure we’re meeting the developing needs of our insureds while helping them understand the benefits of going green and, along the way, reassure them that their insurance coverage will protect them, should a loss occur.”
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Microinsurance and Economic Sustainability

Insurers have both a social interest and a commercial interest in microinsurance, sometimes as part of their own geographic diversification. By providing microinsurance to individuals, cooperatives, and small businesses, insurers can help reduce poverty, and the vulnerability of poor populations due to accidents and illnesses. Through the use of microinsurance, insurers can help establish the cultural infrastucture for insurance products in emerging markets. They may also bring new skills sets; larger commercial insuers offer technical skills and underwriting capacity that local insurers may not have, and provide technical competencies to microfinance institutions.
Microinsurance can reduce credit default risk on the people and property involved in microloans. By reducing this risk, microinsurance increases the availability of microloans and may reduce the financing cost of microcredit.
While poor people often improve their financial positions with microcredit, they easily fall back into poverty as soon as they face a financial crisis such as the death of a breadwinner, payment of essential health care costs, or the loss of productive assets. The donor’s role in microinsurance is significantly different from that in microfinancing, calling for a broad focus on the creation of enabling macro-, meso-, and micro-level environments for microinsurance. This, in turn, will make it possible for more products to get to low-income markets, improving the risk management capabilities of the poor and decreasing their vulnerability. The article USAID’s MD Overview : Microinsurance explains the use of the Microinsurance Note Series to this end. By linking life insurance to the credit–often on a mandatory basis–MFIs had the assurance that the loan would be covered should the borrower die. Credit life products, therefore, still account for most of the microinsurance policies sold to date. However, the microinsurance industry is still likely to encounter challenges such as building a wide network to achieve a critical mass of clients, establishing efficient administration and management systems, overcoming lack of trust and insurance awareness among the population, the creation of affordable products, and the control of moral hazard, fraud, and antiselection. The article From Microcredit to Microinsurance details other challenges faced with the rise of microinsurance as a fully fledged and recognised global industry service.
Different microinsurance products can help low-income households manage different risks. The USAID Microenterprise Development office helps with risk management by offering financial products such as savings, insurance and remittances–that could help households mitigate their risk and prevent the depletion of their assets in the case of shock. The Microfinance Gateway website includes articles and documents on different microinsurance products such as life insurance, health insurance, agriculture insurance and livestock insurance, among others.
In 2006, the Munich Re Foundation and the International Labour Office co-published Protecting the Poor, A MicroInsurance Compendium. Based on the lessons learned from a project launched by the CGAP Working Group on Microinsurance analyzing operations around the world, this volume covers microinsurance product design, marketing, premium collection and governance. It also discusses the various institutional arrangements available for delivery, the roles of key stakeholders, and strategies for achieving the right balance between coverage, costs and price.
The CGAP Working Group on Microinsurance seeks to promote the development and proliferation of insurance services for low-income persons through stakeholder coordination and information sharing. Its main development activities include developing donor guidelines, documenting case studies of insurance products and delivery modes, commissioning research on key issues such as the regulatory environment for microinsurance, supporting innovation that will expand the availability of appropriate microinsurance products, proposing performance indicators for microinsurance, and supporting a newsletter and website. CGAP case studies, as well as others, can be found here. The Working Group’s activities will also be documented at the end of the year on their website under construction.

Specific Examples of Microinsurance Use

One example of how the insurance industry provide microinsurance is Swiss Re’s initiative to cover African farmers against droughts ruining their crop harvests. Such iniatives hightlight the importance of sustainability, and the critical role of stable partnerships in the new markets.
In 2005, the country of Malawi, working with piloted a program for drought insurance to cover local farmers. The National Smallholder Farmers’ Association of Malawi, in conjunction with the Insurance Association of Malawi and with technical assistance from the World Bank and Opportunity International Network financed by the Swiss State Secretariat for Economic Affairs, designed the index-based weather insurance contract that would pay out if the rainfall needed for groundnut production was insufficient. Dr. Jerry Skees at the University of Kentucky has written a number of studies on weather-indexed insurance products in Africa including the Potential of Weather Index Insurance for Spurring a Green Revolution in Africa .
Download file "2008_SkeesWeatherInsurance-Agrica (2).pdf"
In 2006, the World Food Programme (WFP) partnered with French firm Axa Re to pilot a programme to provide cash payouts to farmers in the event of a severe drought. Now, they are working with the Ethiopian government to expand the programme for three years from 2009. Officials are hoping to raise US$230 million in insurance and contingency funds to cover 6.7 million people if there is a drought comparable to the one in 2002/2003. See article below.
Download file "ETHIOPIA.doc"
Another example is The Munich Re Foundation, which seeks to find innovative solutions in the context of international population development and globalisation and their impact on the future of humanity in countries in different stages of development. At the Poznan conference in December 2008, their inititives were highlighted in an article entitled, “Experts examine risk-pooling through insurance to help poor countries cope with climate change.”
The South African National Treasury department issued a paper examining the future of regulation on micro-insurance.
Paralife is in insurance company that offers microinsurance life products to people with disabilities in emerging market countries. These are people who would not normally be insurable in those countries because of their disabilities.
The Microinsurance Centre website provides a glossary of microinsurance terms, a list of resources related to microinsurance and links to other related organizations including a link to insurers and reinsurers involved in microinsurance.
Other entities also support the work of microinsurance, including governmental and non-governmental organizations. The United States Agency for International Development (USAID) microenterprise development strategy seeks to address two pressing challenges:
  • To link microenterprises to greater opportunities for growth, which includes integrating them on more favorable terms into the formal economies of their countries and connecting them to expanded information and resource networks.
  • To bring the benefits of microfinance and business development services to poorer people (“reaching down”), ensuring that the positive impacts of microenterprise development programs reach those in the most need.
Unlike traditional charities and many other microfinance efforts, ACCION’s programs are designed to cover their own costs. In their plan, borrowers pay interest on their loans – enough to cover the expense of making a loan. In this way, each borrower helps finance the cost of lending to the next. The more people the program reaches, the more resources it has to reach even more people.
Another microenterprise development agency, Micro Insurance Agency Holdings, Inc provides emerging entrepreneurs with access to small loans and training that will enable them to start or expand their businesses. As business income increases, the business is able to expand, and the effect spreads beyond the family into the local community, through employment and contribution to the local economy. Thus, the benefits of microenterprise development help grow not just businesses, but stronger communities as well.
Microfinance Opportunities focuses its initiatives in research, training, and technical assistance on three fundamental themes: financial education, microinsurance, and client assessment. Working with institutions within and beyond the microfinance sector, they have developed a range of projects addressing client-focused issues in each of these three core areas.
Allianz has a report on microinsurance projects in three different countries.

Links to Insurance Organization’s Sustainability Initiatives

*Munich Re Group mentioned earlier as a sponsor of microinsurance programs has taken a leadership role in business sustainability work. They offer a variety of examples of sustainable develop on their website at:

http://www.munichre.com/corporate-responsibility/en/homepage/default.aspx.. The Munich Re Foundation website hosts one of the more comprehensive examples of sustainability projects is at http://www.munichre-foundation.org/StiftungsWebsite/AboutUs/Overview/
* Swiss Re: For a comprehensive description of Swiss Re’s sustainability actitivies, see the Corporate Responsibility Report as an example.
*The Insurance Austrailia Group reports annually on their Sustainability work and can be found at http://www.iag.com.au/sustainable/index.shtml
*Allianz has a number of sustainability projects involving climate change issues, sustainable investment, customer responsibility, and microinsurance issues. Their reports can be found at https://www.allianz.com/en/responsibility/index.html
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3 comments:

  1. Thank you for a very useful blog! It seems that the insurance industry is fast realising that promoting sustainability is very much in their interests. After all, they're footing the bill when things go wrong. There are a lot of really inspiring examples included above, particularly the concept of microinsurance.

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