Editors' Cuts

Terrorism Still Risky Business

Pat Speer
Insurance Experts' Forum, September 8, 2011

With improved modeling, insurers would like to believe they have a better handle on the risk management aspects of the terrorism insurance they provide their customers, but the reality is that the true costs of terrorism acts are difficult to predict.

Stung by what was, until Hurricane Katrina in 2005, the largest single claims event payout in the industry’s history, the 9/11 terrorism attacks cost property/casualty insurers and reinsurers approximately $32.5 billion, or $40 billion in 2010 dollars, notes the Insurance Information Institute (III)

The III holds that claims payments related to 9/11-related losses were paid out across many different lines of insurance, including property, business interruption, aviation, workers compensation, life and liability.

The impact of the 9/11 attack also brought to light the need for terrorism risk insurance, which was almost nonexistent in the U.S. prior to 9/11 but has since become critical coverage for millions of American businesses.

Nonetheless, the potential losses from a terror event transcend even the considerable financial wherewithal of the insurance industry. This reality sent a message to legislators and the Bush administration: insurers may need a federal backstop to face the economic consequences of the next attack. "The fact that acts of terrorism are intentional and that the frequency and severity of attacks cannot be reliably assessed makes terrorism risk extremely problematic from the standpoint of insurers," offers Bob Hartwig, III’s president.

So fourteen months after the attacks, George W. Bush signed the Terrorism Risk Insurance Act, (TRIA) a law providing a three-year federal backstop for commercial property and casualty insurers in the event of cataclysmic terrorist acts. Under the program, the government covers 85% of losses if a terrorist attack were to occur. The law states that no insurer may be required to make any payment for insured losses in excess of its deductible and its share of insured losses.

But against a record deficit and a still-struggling economy, where is the law now?

In the nine years since the enactment of what was supposed to be a temporary measure, the law, which currently provides a $100 billion backstop to commercial property and workers compensation insurers and reinsurers that choose to offer terrorism cover, has been extended twice. Its latest iteration, known as the Terrorism Risk Insurance Program Reauthorization Act (TRIPRA) of 2007, will be in place at least through 2014.

That’s not to say the law isn’t under continuous review, however. The Obama administration last year proposed scaling back the Terrorism Risk Insurance Act (TRIA) as part of a $17 billion 2011 budget cutback plan. The proposed cuts would slash $249 million in TRIA subsidies.

When the Obama administration first introduced the cuts, Aon released a study it conducted in 2009 that found that if TRIA is changed or unfunded, 70 percent to 80 percent of the commercial property insurance market would revert to absolute exclusions—the same spot the industry was in immediately following 9/11.

Obama’s scale-back of TRIA funding didn’t materialize in the final budget. But with or without the backstop, insurers still face challenges greater than educating clients on terrorism risk mitigation and crisis response procedures--insurers must price low probability, high impact events accordingly. And even with improvements in science, technology, modeling and processes, the ultimately unpredictable nature and near limitless loss potential of a terrorist attack make it the ultimate underwriting challenge.

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