97467 Fiscal Management of Natural Disasters in Colombia Assessing and managing contingent liabilities related to natural disasters Background Highlights Colombia suffers more than 600 natural disasters a  The Government of Colombia (GoC) is developing an year, the highest rate of recurrent natural disasters in integrated financial strategy against natural disasters, Latin America. The number of disasters is on the rise. which includes the fiscal accounting of contingencies With 85 percent of the population and assets located in arising from natural hazards. areas exposed to two or more natural hazards, so is  Natural disasters are the GoC’s second most important their economic impact (Figure 1). In the past 30 years, source of contingent liabilities, with annual expected over 15 million people have been affected. In 2010- losses estimated at US$490 million (0.7 percent of its 2011 alone, heavy rains due to La Niña affected budget) and one in 100 year losses estimated at approximately 3.5 million people and damages were US$3.0 billion (4.4 percent of its budget). estimated at around 2 percent of GDP.  Integrating contingent liabilities in fiscal risk management frameworks can help improve the fiscal resilience of the country. Outcomes The GoC performed the first comprehensive review of its contingent liabilities, including disaster risks, in 2010. Its contingent liability to natural disasters was estimated based on potential losses to public assets and low-income housing. Natural disasters emerged as the second most important source of contingent liabilities for the GoC, with the Annual Expected Loss (AEL) valued at US$490 million, Objectives or 0.7 percent of the GoC’s 2010 budget. The Probable The Government of Colombia (GoC) has been Maximum Loss (PML) for 100-year and 500-year return strengthening its financial response capacity to natural periods are US$2.9 and US$5.6 billion, respectively, or 4.4 disasters for over a decade. The Ministry of Finance and 8.4 percent of the budget, respectively (table 1). (MHCP) has established contingency funds and has Table 1. Estimated Annual Expected liability contracted contingent line of credit for disasters from Contingent Liability US$ Million % GDP * % Budget * the World Bank – the Catastrophe Deferred Drawdown Legal Actions 18,642 7.5 27.7 Option (Cat-DDO). Natural Disasters 490 0.2 0.7 Public Credit Operations 56 0.02 0.1 More broadly, the MHCP has been improving its fiscal Infrastructure Projects 26 0.01 0.0 resilience toward contingent liabilities (financial Probable Maximum Loss from Natural Disasters obligations that can be triggered by an unexpected US$ Million % GDP * % Budget * 100 year PML 2,976 1.2 4.4 event, including disasters). In the early 2000s, the 250 year PML 4,417 1.8 6.6 MHCP began identifying and assessing its explicit (i.e., 500 year PML 5,655 2.3 8.4 legally defined) contingent liabilities. More recently, in Source: MHCP (2011) and ERN (2011). * Estimations used 2010 recognition of its significant implicit fiscal exposure to figures: GDP of COP$546.9 and GoC Budget of COP$147.3 billion. disasters, the GoC embarked on: To reduce its financial exposure to its contingent liabilities,  Assessing its contingent liabilities to natural the MHCP is strengthening its fiscal risk management disasters; and strategy by integrating risks arising from natural disasters  Developing a sovereign disaster risk financing as an implicit contingent liability. and insurance (DRFI) strategy that builds on its existing disaster and fiscal risk management. In 2011, the MHCP published the report “Contingent 2. Fiscal risk assessment can inform the development of a Liabilities: The Colombian Experience,” which highlights sovereign DRFI strategy. Assessment of contingent technical and normative efforts and policy reforms on the liabilities is an essential input into the development of a management of contingent liabilities implemented by the government’s DRFI strategy. Including disasters into fiscal GoC. The government also formally recognized natural risk assessment elucidated the GoC’s exposure in financial hazards as a source of risk which must be estimated in the terms, enabling the government to make informed mandatory fiscal risk assessments of the MHCP. decisions on its sovereign DRFI strategy. Furthermore, the GoC acknowledged the reduction of fiscal vulnerability as key for achieving a more sustainable 3. Disaster risk financing can represent an integrated and equitable development in its “Vision Colombia 2019” component of a broader fiscal risk management strategy. policy planning document. Fiscal risks to the government are often interlinked, thus an integrated fiscal risk management strategy is essential. The realization that disasters pose the second largest fiscal The GoC, for example, is working on enhancing risk to the GoC motivated the MHCP to further mitigate catastrophe insurance requirements for concessions, and manage this risk by working closely with the World which also contributes to reducing its contingent liability Bank in developing a sovereign DRFI strategy. In 2008, the to public-private partnerships for infrastructure GoC secured financial protection against disasters in the construction and operation. form of a US$150 million Cat DDO (which it fully drew down during the 2010 floods). In 2011, it became the first References country to engage in a program by the World Bank and Switzerland’s State Secretariat for Economic Affairs (SECO) DRFI Program (2012). Fiscal Risk Assessment of that assists countries in developing an integrated DRFI Contingent Liabilities Associated with Natural Disasters: strategy within their broader fiscal risk and disaster risk The Colombian Experience. The World Bank. Washington, management agendas. In 2012, the GoC legally established DC. a new National Disaster Risk Management Fund and signed a new US$250 million Cat DDO. Evaluación de Riesgos Naturales (ERN, 2011). Global Assessment Report on Disaster Risk Reduction, As the GoC continues to develop its sovereign DRFI Probabilistic Modeling of Natural Risks at the Global strategy, it is prioritizing three key areas for improvement: Level, Phase 1A, Development of Methodology and Case Studies.  Improving the insurance of public assets through a centralized approach to insurance purchase and MHCP (2011). Contingent Liabilities: The Colombian enhanced insurance requirements for concessions; Experience. Bogota, Colombia.  Further developing its approach to budget management of disaster risk through market-based Contact risk transfer solutions; Eric Dickson, Urban Economist, Disaster Risk Management  Establishing policy guidelines for DRFI to guide the and Urban Development, LCSDU, The World Bank, overall design and implementation of financial edickson@worldbank.org solutions for natural disasters. Olivier Mahul, Program Coordinator, Disaster Risk Lessons Learned Financing and Insurance, FCMNB, and GFDRR, The World Bank, omahul@worldbank.org 1. Natural disasters can represent a significant contingent liability of the government and should be integrated into Hannah Yi, Policy Analyst, Disaster Risk Financing & broader fiscal risk assessment. In Colombia, natural Insurance, FCMNB and GFDRR, The World Bank, disasters represent the second greatest fiscal risk posed to hyi@worldbank.org the government. Including disasters in its assessment of contingent liabilities allows the MHCP to understand its fiscal exposure and take steps to respond to disaster and other fiscal risks in a more integrated way. Updated December 2012 www.worldbank.org/fpd/drfip www.gfdrr.org