Climate risk is manageable – for now

At the recent FBD Insurance annual general meeting CEO Tomás Ó Midheach said that he doesn’t expect any major impacts to the company’s costs over the next five years from climate change.

He explained that the climate models that the insurer uses when assessing the risks from changing weather patterns show that Ireland would escape the worst of the effects over the short term.

For an insurance company the worst effects are the results of major storms such as Éowyn and significant flooding events.

However, he added that as an insurer, FBD would not be insulated from significant weather and climate events elsewhere in the world.

The insurance industry works because risks are spread across a large number of policyholders.

If one person has to make a large claim, then the smaller insurance payments of many mean that the cost is spread widely.

There is a similar model in place for insurance companies, called the reinsurance market.

Large-scale events

Insurance companies can buy cover for large risks in the reinsurance market. Coverage for large-scale events can be purchased (often called catastrophe reinsurance) which will pay out in the event of a major disaster.

This reinsurance is generally quite expensive and only covers the largest risk events, but the advantage from having the cover in place was recently illustrated for FBD with storm Éowyn, where approximately €90m in claims will end up at a net cost to the insurer of around €30m.

While Irish insurance companies generally work on the country-level model, the reinsurance market is global.

Major weather events, fires and event of civil unrest around the world are covered by the market.

Reinsurance is costly, and the risk modelling used in the industry is similar to that used by any insurance company, based on a mix of trends over the long term, the size of recent payouts, and computer models for what might be coming next.

What that means is that more frequent major weather events around the world in the last few years will lead to higher reinsurance costs, and modelling showing more frequent weather events in the future will also lead to higher reinsurance costs.

If the cost of reinsurance for Irish providers increases, then that price rise will be passed on to customers here.

The reinsurance market is only one small example of how Ireland is not sheltered from the effects of climate change even presuming FBD’s models are correct that the physical impact in this country will be manageable over the next few years.

That delayed transition could increase the economic costs of transitioning and could cause additional financial stress.

A recent presentation from the rather cumbrously titled Network of Central Banks and Supervisors for Greening the Financial System (NGFS) of a dedicated framework to analyse the potential near-term impacts of climate policies and climate change on financial stability and economic resilience highlighted the scenarios likely to play out over the next few years.

While the full presentation is on the NGFS website, the outlook says we will see regional extreme weather events that generate temporary but material GDP (economic output) losses, with effect on the global economy, which could increase the cost of the transition to a less carbon intensive economy.

That delayed transition could increase the economic costs of transitioning and could cause additional financial stress.

On the regional side, the presentation says that Africa, Asia and South America will be the hardest hit, with economic output in Africa dropping by more than 10%.

Two lessons

But, as the presentation makes clear, the effects would be global.

There are two lessons from recent history which give a clear indication to how this knock-on effect can happen.

The global financial crisis in 2007 may have had its initial cause in the US mortgage market, but the inter-connectiveness of the world’s financial system led to a rapid spread of an American problem to the rest of the world, with Europe being hit particularly hard as the free flow of money around the world was interrupted.

The slow response of European policymakers to the crisis at the time – where they often suggested the financial difficulties were an American problem – helped to make the financial difficulties in Europe longer and more protracted than what was seen in the US.

The second example is what happened during the pandemic and how vulnerable global supply chains are to disruption.

Difficulty securing raw materials during COVID led to extreme price movements in some commodities, ultimately leading to business disruption around the world and very high levels of inflation. The regions which are projected to be hardest hit are also the sources of many of the world’s raw materials.

Comment

Presuming if FBD’s climate models are correct, Ireland is not likely to see severe direct effects from climate change over the next few years. However, this does not mean that the country is insulated from second-round effects from disasters elsewhere.

This hits at one of the fundamental problems with mitigation measures against climate extremes.

If consumers and businesses in this country do not see the effects directly, there may continue to be some resistance to taking ever more measures to reduce emissions.

One of the biggest mistakes made by policymakers, like we saw in 2007, is to see far away problems as something that can be ignored.

But the inter-connectiveness of the planet’s trade and finance systems mean a problem somewhere can quickly become a problem everywhere.

Global fallout

Ireland may be sheltered from the worst of the weather for now, but it will not able to escape the global fallout from the winds of change in global finance and trade.

In short: