ECB pitches plan to boost insurance coverage for climate losses

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(Bloomberg) --The European Central Bank and the region's insurance authority proposed a two-pronged approach to increase insurance coverage for floods, storms and other weather disasters that are increasingly being fueled by climate change.

One part of the plan is a voluntary public-private reinsurance mechanism that would pool private risks across the EU to help backstop weather-related losses. The second pillar would be to create a mandatory European Union fund to pay reconstruction costs when high-loss natural disasters occur.

"The proposed solution is one possible way to mitigate the macroeconomic and financial stability risks from natural catastrophes," ECB Vice President Luis de Guindos said in a statement.

As the fastest-warming continent, Europe has been hit by rising extreme-weather losses over the past 15 years. Between 1981 and 2023, natural catastrophes caused about €900 billion ($954 billion) of direct economic losses within the EU, with one-fifth of those losses occurring in the past three years.

Roughly 75% of those losses weren't insured, according to a paper published last year by the ECB and the European Insurance and Occupational Pensions Authority (EIOPA). They warned that as the climate continues to warm, the continent's insurance protection gap is "likely to increase."

Since publication of the 2023 paper, Europe has seen further devastation from natural disasters, including severe floods in Spain, as well as parts of central and eastern Europe. The bloc's existing Solidarity Fund has so far committed €1 billion to help some of the flood-stricken countries, but that's only a fraction of the €23 billion in overall damage.

The storms emphasize the increasing burden that's being placed on public finances, the ECB and EIOPA wrote in their follow-up paper published Wednesday. 

The newly proposed EU mechanism would offer reinsurance capacity, making coverage more affordable for homeowners and businesses. It would complement the private markets and member countries' national programs rather than compete with them. And it would seek to transfer part of the risks to capital markets via instruments such as catastrophe bonds.

"Pooling a wider range of risks offers the possibility to realize the marginal benefits of diversification beyond what may be commercially viable," according to the paper.

The second aspect of the plan is to create a mandatory public disaster fund in which country contributions are adjusted to reflect their respective risk profiles. To ensure that governments have "skin in the game," the payouts would only be used to support the rebuilding of eligible public assets not covered by private insurance, the ECB and EIOPA said. 

It is unclear whether the EU will ever adopt the latest proposals or, if they do, how long that might take. The paper is "meant to spark a discussion on possible ways to reduce the insurance protection gap," EIOPA Chair Petra Hielkema said in a statement.