Insights #10 - August 2015 insightsinDRM Publication no.: 99268-LAC A Practitioner’s Perspective on Disaster Risk Management in Latin America & the Caribbean 99268 The Caribbean and Central American Partnership for Catastrophe Risk Insurance: Creation of a Regional Partnership for Financial Resilience Intervention “For Nicaragua, it is an honor to be the first member of COSEFIN1 countries to join the CCRIF .2 This insurance will At the request of COSEFIN Ministers and in partnership with the US Treasury, allow us to strengthen financial resilience to natural disasters a multi-disciplinary World Bank team including members of the Social Urban and continue our efforts to reduce poverty and respond to Rural and Resilience’s Disaster Risk Management (SURR DRM) Unit, the climate change challenges as part of our National Human World Bank Treasury and the Finance and Market’s Disaster Risk Finance and Insurance (DRFI) Program analyzed various financial risk transfer op- Development Plan.” tions for states to manage their fiscal vulnerability to disasters. However, of –Ivan Acosta, Minister of Finance of Nicaragua the possible options and solutions, which would prove most beneficial and effective for COSEFIN countries? And could these countries come to consen- sus on the optimal solution? Challenge To thoroughly assess the possible options, the team: In 1998, Hurricane Mitch swept across Central America causing unprece- dented damage in its wake. In Nicaragua, over 3,000 people lost their lives hat explored the various types of insurance op- I. Prepared technical notes t and hundreds of thousands were left homeless due to related flooding and tions available to Central American countries that would assist in provid- mudslides. Estimated economic damage in the country totaled US$ 1 bil- ing immediate liquidity to finance emergency expenses: lion. In Honduras, the transportation infrastructure was decimated, leaving more than 90 bridges and nearly all secondary roads severely damaged or  hile traditional insurance re- ◆◆ Traditional vs. parametric insurance. W destroyed. quires on-the-ground loss assessments following a disaster and is well suited for reconstruction purposes, parametric insurance makes pay- “We have 75 percent…of our major infrastructure destroyed, damaged or ments based on the intensity of the event or the amount of loss calcu- torn apart. Our agriculture is in shambles. All of our major crops, our ex- lated in a pre-agreed model. Therefore, for these purposes, paramet- port products…gone,” said Honduran President Flores in 1998 in the after- ric insurance is deemed more appropriate. math of Hurricane Mitch.3 Damages and losses in Honduras amounted to approximately 81 percent of the country’s GDP .4 II. Developed a comparison of various ini- tiatives  that would facilitate COSEFIN’s “After exploring Countries in Central America are highly vulnerable to the adverse effects goal of reducing countries’ fiscal vul- options for engaging associated with earthquakes, tropical cyclones and excess rainfall. Since nerability to natural disasters, arising in sovereign disaster 1980, several countries in the region have experienced a disaster event from emergency expenses. These op- risk financing, Central that had an economic impact above 50 percent of their annual GDP . tions included: American countries Damages incurred to assets in the agriculture, education, health, hous- concluded that joining ing, infrastructure, transport, and water sectors subsequently contribute to ◆◆ Creating a new catastrophe risk insur- large fiscal deficits and debt accumulation requiring public debt restruc- ike CCRIF SPC6 (for- ance facility, l the CCRIF SPC facility turing, while at the same time limiting countries’ abilities to finance risk re- merly the Caribbean Catastrophe was the most efficient duction activities. Risk Insurance Facility), for Central and cost-effective American countries. insurance mechanism Although countries in Central America are able to distribute disaster to pool our risk.” risk over a wide geographic area and maintain some borrowing capac- ◆◆ Developing ways for Central American –Martín Portillo, ity for reconstruction purposes, catastrophic shocks still exceed the ca- countries  to work with Mexico’s Executive Secretary of pacity of national economies. Disaster response frameworks continue National Disaster Fund to jointly COSEFIN to rely heavily on ad hoc budget reallocations, emergency calls for do- transfer catastrophe risk to the inter- nor assistance, and simply not replacing or repairing damaged capi- national reinsurance/capital markets. tal stock.  o join Caribbean coun- ◆◆ Preparing a path for Central American countries t Given these realities, Central American countries determined5 that a tries under the umbrella of the existing CCRIF. cost-effective solution to strengthening their financial resilience to disas- ters was imperative and, through the Council of Ministers of Finance of  ◆◆ Having Central American countries independently transfer their ca- Central America, Panama and the Dominican Republic (COSEFIN), ap- tastrophe risk to the international markets. proached the United States Department of the Treasury and the World Bank for assistance. Joining CCRIF was identified as the most cost-effective option for delivering www.worldbank.org/lcrdrm/insights insightsinDRM A Practitioner’s Perspective on Disaster Risk Management in Latin America & the Caribbean Conceptual framework to build a cost-effective disaster risk ◆◆CCRIF would restructure itself as a Segregated Portfolio Company (SPC)  in order financing and insurance strategy to segregate the risk and capital of the two sub-regions under different port- folios. This prevents the segregated portfolios from drawing capital from Financial Instruments each other in the event that payout obligations of an underwritten policy ex- Level of Disaster Risk to Manage Disaster Risk ceed that portfolio’s own capital and reinsurance lines. Low High High Risk Layer Disaster Risk Insurance ◆◆Donor support would enable COSEFIN countries to build  the reserves of their (e.g., large (e.g., parametric segregated portfolio at an accelerated pace. Such donor support was also earthquakes, torpical insurance, instrumental in the establishment of CCRIF in 2007. storms, hurricanes) catastrophe bonds) Probability of the Event Outcome Severity of the Impact Why was this intervention successful? On April 18, 2015, COSEFIN mem- Medium Risk Layer bers and CCRIF SPC gathered togeth- ◆◆ The challenge of (e.g., floods, minor Contingent er to formally sign a Memorandum of adopting parametric earthquakes) Lines of Credit Understanding allowing Central American insurance was broken countries access to low-cost, high-quality into surmountable steps sovereign parametric catastrophe risk in- and agreement was surance through CCRIF SPC. During the obtained for each stage in the process. Contingent Budgets, ceremony, the Government of Nicaragua Low Risk Layer (e.g., local floods, Reserves, also signed an agreement to become the ◆◆ Any uncertainties landslides) Annual Budget first Central American country to formally and concerns that Allocations join CCRIF SPC. Other COSEFIN coun- arose throughout the High Low tries are expected to join CCRIF SPC in process were shared with the countries and 2015 and 2016. organizations involved. low-cost high-quality catastrophe risk insurance, with the purpose of financ- This generated a sense ing emergency costs, because it is: The benefits associated with the new of ownership and CCRIF SPC for Central American and camaraderie. ◆◆Quick.  It will allow Central American countries to build on the successful Caribbean countries are significant. experience of a facility that already exists. Apart from lower premiums for all par- ◆◆ The dialogue with Central American and ticipating countries, anticipated benefits Caribbean countries was ◆◆Efficient.  CCRIF provides cost-effective and fast-disbursing liquidity (offer- include: through their organizing/ ing payouts in 14 days or less) and is an efficient way to finance a liquid- representative bodies ity gap arising in the immediate aftermath of a disaster.  ssociated with risk dis- ◆◆Cost-savings a – COSEFIN and the persion, size of aggregate portfolio Caribbean Community ◆◆Flexible. C  entral American countries would have the flexibility of choosing and gains in technical and administra- (CARICOM). This greatly their coverage parameters, including which perils they would like coverage for tive efficiency. reduced the time and and their premium amounts every year. In addition, not all Central American  ◆◆Increased access to reinsurance and effort needed to contact and negotiate with each countries would have to join CCRIF at once for the initiative to work. capital markets. country separately. ◆◆Enhanced regional collaboration a nd  ince its founding in 2007, CCRIF has made twelve payouts ◆◆Proven. S cooperation. amounting to US $35.6 million to its Caribbean members and these pay- ◆◆Access for new members to the know-how and expertise of CCRIF SPC. outs have proven useful in managing budget volatility in the immediate aftermath of a disaster. However, although in joining CCRIF SPC, governments in the Caribbean and Central America have taken a significant step towards the goal of reducing oining CCRIF also affords ◆◆Financially beneficial for both sub-regions. J their fiscal vulnerability in the event of disaster, disaster risk parametric insur- Central American countries savings of approximately 36 percent of the to- ance alone will not solve all of their challenges. COSEFIN countries ought to tal premium volume and allows Caribbean countries savings equivalent to complement their catastrophe risk coverage through CCRIF with the use of oth- 25 percent if the countries approach the reinsurance market and capital er financial instruments in order to efficiently prepare financially for recurring markets together through CCRIF . disaster events and the cost of reconstruction. In addition, their Ministries of Finance ought to seek ways to enable and influence other technical line minis- After determining that joining CCRIF was the best solution, the team then tries to work to reduce their countries’ exposure and vulnerability to natural haz- had to decide how to execute such a partnership so that it would be benefi- ards, through targeted risk reduction investments and better territorial planning. cial for both the Caribbean and Central American regions. Following consul- tations with the major stakeholders involved, including CCRIF, COSEFIN and Notes: Caribbean governments, these elements were agreed to: 1 Council of Ministers of Finance of Central America, Panama and the Dominican Republic 2 Formerly known as the Caribbean Catastrophe Risk Insurance Facility ◆◆Participating countries would pay an annual premium  commensurate with 3 http://www.cnn.com/WEATHER/9811/06/mitch.02/ their own specific risk exposure and there would be no cross-subsidy be- 4 ECLAC, 1998. Honduras: Assessment of the damage caused by Hurricane Mitch, 1998. Main tween countries as is currently the case with Caribbean members, or be- results available at https://www.gfdrr.org/hurricane-mitch-honduras-1998 5 Mandate of Central America Presidents SICA, 2011 tween sub-regions. 6 www.ccrif.org Contacts:  Lead DRM Specialist - Urban and Disaster Risk Unit - Social, Urban, Rural & Resilience Global Practice (nholmnielsen@worldbank.org) Niels Holm-Nielsen – Ana Campos Garcia – Senior DRM Specialist – Urban and Disaster Risk Unit – Social, Urban, Rural & Resilience Global Practice (acamposgarcia@worldbank.org) Nancy Chaarani Meza – Operations Officer – Urban and Disaster Risk Unit – Social, Urban, Rural & Resilience Global Practice (nchaaranimeza@worldbank.org) www.worldbank.org/lcrdrm/insights