Managing Terrorism Risk
Eric Brosius
May 7, 2007
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It’s all about capacity!
– US insured property is roughly $30 trillion
– WC fatality exposure is roughly $30 trillion
– US insurer surplus is less than $1 trillion
What promises to pay can we make?
– Insurance is based on the ability to write large
numbers of uncorrelated risks
2
Managing catastrophe exposures
– A catastrophe affects multiple risks, violating the
condition that risks are uncorrelated.
– To manage catastrophes, we use
• Footprints of potential events
• Detailed exposure data for the insured book
• Realistic disaster scenarios and/or probabilistic modeling to
project how event footprints will affect the book
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Why is terrorism risk hard to insure?
– It is not fortuitous; probabilistic methods may not apply
– It is catastrophic, and footprints are hard to predict
– We don’t know what geographic areas or segments of
the economy may be targeted
– Potential losses are huge (could be $trillions)
– We cannot estimate prospective expected loss
4
Nuclear/biological/chemical/radiological
(NBCR) events
– Even harder to envision footprints
– Generate even larger loss scenarios
– More likely to be correlated with investment results
– Reinsurance available only at “make me move” prices
Destructive agency not as important as the
size and nature of potential losses
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Tools for managing terrorism risk
– Underwriting (know what you write)
– Exposure management (know how much you write
and where)
– Bear risk consciously
– Mitigate loss where feasible
Insurers have only partial control over
acceptance of risk, especially for WC
6
Other sources of capacity
– Traditional reinsurance
• $6-8 billion estimated conventional capacity
– Capital Markets
• Available at a price, but will take time to become meaningful
– Government
• Essential for the foreseeable future
7
Total Net Assets in Money Market Mutual Funds
Billions of Dollars at Year End
Assets
Year
1973
1974
1975
1976
1977
1978
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
Assets
2
4
4
4
11
46
76
186
220
179
234
244
292
316
338
428
498
542
546
565
611
753
902
1,059
1,352
1,613
1,845
2,285
2,272
2,052
2,500
2,000
1,500
1,000
500
1973
1978
1983
1988
1993
1998
2003
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Terrorism risk management
design principles
– Promote economic security
– Encourage private market solutions
– Maintain loss mitigation incentives
– Minimize administrative burden
– Limit subsidization (e.g., via surcharges)
– Ask government to do what private market cannot
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