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Describe the growth of the insurance industry in an emerging market

Describe the growth of the insurance industry in an emerging market

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An essay for the 2012 Undergraduate Awards Competition by David Carroll. Originally submitted for Bachelor of Business Studies at None, with lecturer Robert Ford in the category of Business & Economics
An essay for the 2012 Undergraduate Awards Competition by David Carroll. Originally submitted for Bachelor of Business Studies at None, with lecturer Robert Ford in the category of Business & Economics

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Published by: Undergraduate Awards on Aug 30, 2012
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10/27/2013

 
 Describe the growth of the insurance industry in an emerging market.
''As we know, there are known knowns; there are things we know we know.
 
We also know there are known unknowns; that is to say we know there are
 
some things we do not know. But there are also unknown unknowns-the ones
 
we don't know we don't know.'' 
(
US Secretary of Defence Donald Rumsfield)
Abstract
One event sparked a notable increase in demand and decrease in supply of Terrorism Risk insurance coverage.This event not only shook the insurance industry, but it shook the entire world. On September the 11th, 2001,four jetliners were hijacked by terrorists in Boston, MA. Two of which were flown into the Twin Towers and oneinto the Pentagon while the fourth did not reach its destination, The White House
.
 Approximately 3,000 peoplelost their lives that day. Losses amounted to approximately $2 Trillion, from which insurers were liable for nearly$36 Billion. These losses had severe repercussions. Insurers became unwilling to offer coverage for TerrorismRisk, to the extent that the U.S. Government under the Bush administration had to become involved in the form of the Terrorism Risk Insurance Act. This offered protection to the insurance industry as a Federal ReinsuranceProgram. Failure for the government to intervene would have had a detrimental effect on commercial andfinancial agreements. Terrorism Risk is such an emerging market for insurers that estimating and pricing the riskis very difficult. There is not much historical data available to them and their ability to model the risk and estimatefeatures such as; Maximum Probable Losses, Frequency and Severity, and Capital Requirements is difficult.Terrorism Risk can be compared to Environmental Risk and Political Risk in that regard. Society must also playtheir part and their civic duty in protecting against and minimising the risk of terrorism. The Department of Homeland Security (DHS) has a number of policies and strategies in place to aid security against terrorism. Thisis the case right around the world, and not just the U.S., but due to 9/11 the U.S. situation is primarily discussedwith global examples highlighted also.
Introduction
The quote above profoundly highlights the nature of Terrorism Risk. Terrorism is a knownunknown. We know it is present but yet we never know when it will occur nor do we knowits possible severity or frequency of occurring. This phenomenon is and has been anemerging market in the insurance industry since the events of 9/11. It has since shifted from arisk ignored to a risk apparent among the public
(Boardman 2005)
. Policies coveringTerrorism Risk have been on an upward trend since the tragic events of that fateful day in2001. The US, under the Bush Administration, was subsequently forced to bring intoregulation, the Terrorism Risk Insurance Act 2002 which averted a national crisis due to theproperty reinsurers exiting the reinsurance market for terrorism risk and hence, causing a
 
2
severe market shortage
(Filisko 2008).
It is the ambiguous nature revolving around TerrorismRisk that makes it, from an
insurer’s
point of view, very difficult to effectively price andreserve capacity for potential exposure to catastrophic losses
(The Marsh Report 2010)
. It isthis ambiguity that is causing the insurers to be cautious. Here lies the problem; while thedemand for coverage of terrorism risk has grown among the public, there is still a shortage of insurers willing to cover the risk, although this hole has been temporarily plugged in the US,by the intervention of the government. (A large extent of this essay will focus on the USsituation, where terrorism risk is very prevalent. References will be made however, regardingthe international outlook.)
Terrorism Risk & Fear on the Upward Trend.
Terrorism Risk has become one of the growing, emerging markets in recent years within theinsurance industry. This logically coincides with the threat of terrorism and the fear amongthe public also on the upward trend. In recent years we have seen attacks such as: thebombings in Bali, Indonesia in 2002, the bombings in Casablanca, Morocco and on the UNHeadquarters in Baghdad in 2003, the Metro bombing in Moscow and Commuter trainbombings in Madrid in 2004, the London Underground train and bus bombings in 2005, theattacks on hotels and train stations in Mumbai in 2008, and most recently the Subwaybombings in Moscow and the attacks on Ultra Nationalist buildings in Athens in 2010
(Marsh 2010)
. This shows a stark increase in terrorist activity throughout the last decade.The growth of Terrorism Risk within the insurance industry can be traced back to one event.On 11
th
September 2001 four jetliners were hijacked by terrorists in Boston, Massachusettsand three of the four planes were flown into the Twin Towers and the Pentagon. The deathtolls amounted to just under 3,000 people, while the total cost of the terrorist attacks isbelieved to have reached the $2 trillion mark 
(Baker 2007)
. $32.5 billion of these costs wereshared between nearly 150 insurers and reinsurers worldwide. Almost double the insuredlosses of the previous high, that of Hurricane Andrew in 1992
(Hartwig 2004)
. Demand hassurged for Terrorism Risk Insurance since. A Marsh survey showed results that 60% of organisations bought coverage, in the form of property terrorism insurance, in 2009
(TheMarsh Report 2010)
. Outside of the U.S., it is perceived by 59% of global business leadersthat terrorist attacks and political violence will increase over the next 5 years. For example,British intelligence, MI5, has identified 200 groups and over 2,000 individuals who are adirect threat to British national security. The Director General of MI5, Jonathon Evans is
 
3
quoted in say
ing, ‘I do not think that this problem has yet reached its peak.’
 
(Lloyds 2011)
.Globally, this view is shared as there has been an increase in the number of religious-basedterrorist groups, many of whom strive for mass causalities
(Kunreuther and Michel-Kerjan2004)
.
TRIA/TRIPRA
The insurer’s willingness to insure terrorism risk pre and post 9/11 is astonishing. Chicago’sO’Hare Airport held $750 million of terrorism insurance costing an annual premium of 
$125,000. Following the terrorist attacks, the insurers were offering them $150 millioninsurance coverage at an annual premium of $6.9 million
(Kunreuther and Michel-Kerjan2004)
. These figures are startling and speak for themselves. Post-9/11, in the U.S., with manyinsurers being cautious and unwilling to offer the levels of coverage demanded by the public,the US Government under a George W. Bush Administration were forced to intervene. Thisintervention came in the form of the Terrorism Risk Insurance Act 2002 (TRIA). It originallywas due to be in place until the 31-December-2005 however it was extended for another 2years until 2007.
TRIA offered coverage for, ‘Acts committed by individual(s) acting on behalf of any foreign
person or interest to coerce the civilian population of the U.S. or to influence the policy or
affect the conduct of the U.S. government by coercion.’
(The Marsh Report 2010)
.The unavailability of terrorism risk offered by insurers and reinsurers in the market prior togovernment intervention would have had a devastating impact on numerous commercialfinancial agreements on the domestic front. The initial Act averted this crisis through theFederal Reinsurance Program. It was designed to reinsure both foreign and domesticterrorism risks and to offer coverage for losses of over $5 million, with a trigger of $100million. This did not include nuclear, biological, chemical or radiological risks however
(Filisko 2008)
. The Terrorism Risk Insurance Program Reauthorisation Act (TRIPRA) wassigned into law in December 2007 as an extension to TRIA and is due to be in place until2014. The Obama Administration through their 2011 budget proposal in February 2010 hasstated that federal support for TRIPRA will reduce from 2011 onwards
(The Marsh Report2010)
.
Estimating Terrorism Risk
The insurance industry received a shot to the arm following the attacks of 9/11. They foundthemselves exposed from offering coverage to an accumulation of a highly concentrated area

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