David Farmer, senior vice president of federal affairs for the Alliance of American Insurers, has sent a letter to the editor of the Wall Street Journal. In it, he rebuts a commentary the newspaper published by Holman W. Jenkins Jr., which questioned the need for a federal terrorism backstop.
I believe that if you ask America’s businesses the question that Holman W. Jenkins Jr. posed in his Aug. 14 commentary “How Big Is the Terrorism Insurance Problem?” they would tell you the problem is very significant and is affecting their business decisions.
The crisis is real. More than just “a few projects here and there” are experiencing problems. According to the Real Estate Round Table, “the ongoing scarcity of coverage has eliminated or delayed $8 billion of commercial development and jeopardized many jobs in the real estate sector.” This hurts the economy, from New York to Los Angeles.
Why are insurers so hesitant to cover more terrorism risk? Coverage is scarce, limited in nature, and very expensive. Our nation’s leaders have told us to expect more attacks. Primary insurers (who write commercial policies for businesses) may not be able to cover even the existing risk they now have on their books. Reinsurers—who absorbed much of the Sept. 11 costs—are no longer offering primary insurers terrorism coverage. Commercial insurers are now entirely reliant on their own, greatly-reduced resources. Unfortunately for America’s businesses, the $300 billion in assets that Mr. Jenkins cites relates to the entire insurance industry. The commercial insurance sector actually has only about $110 billion in reserves to cover all business for property, liability, surety and workers’ compensation.
Mr. Jenkins agrees that the government must ultimately serve as insurer of last resort against extreme terrorism incidents. He questions, however, whether an explicit government guarantee at this point would inhibit development of private-sector coverage. But as he also points out, there are no insurance models for terrorism risk.
The very nature of terrorist attacks and the uncertainty they generate make it almost impossible to construct a useful model. Without a model, each insurer must guess. Given the dramatic uncertainties we all face, the insurance market has responded by limiting its exposure to loss.
A federal backstop would help stabilize the private market, not replace it. By creating an upper limit of loss, a backstop would define the risk and make it possible to appropriately allocate and price it. The United Kingdom, in recognition of this reality, recently expanded their government terrorism reinsurance program to backstop insurers for nuclear, biological and other threats, even as we continue to debate the issue.
Catastrophe bonds and other financing mechanisms may sound attractive, but clearly they are not even remotely sufficient to meet the need for terrorism coverage. If they were, businesses would not be facing their current difficulties.
Only the federal government has the resources to effectively backstop insurers so that they can provide the terrorism risk coverage America needs. The Administration, the Senate and the House have all recognized the need to stabilize the insurance markets and protect our country’s economy.
In the case of terrorism risk, Congress is acting responsibly by addressing the reality of a change in geopolitics that is as profound as the Sept. 11 attack on our nation. All of us should support their efforts in creating good economic policy for these uncertain times.
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