Pool Re should be replicated for other forms of systemic risk: Catlin

The pandemic proved government is the “last port of call” for systemic risks and the same thesis ought to apply to cyber risk, according to Stephen Catlin, executive chair of Convex.

Speaking to Insurance Day at his company’s Bermuda office, Catlin says, conceptually, the structure of Pool Re could be replicated to build a separate Cyber Re, Pan(demic) Re and Climate Re. They could be operated under the single umbrella of the government-backed reinsurance scheme but have separate pots of capital.

“Insurance is about using the same capital over and over again to spread the risk, while Pool Re’s £7.1bn kitty is there for one peril. If you have a Pool Re, Cyber Re, Pan Re and Climate Re, then you could reach £30bn and you’re using the capital more than once,” Catlin says.

“You couldn’t realistically create the whole lot on day one, because carriers’ risk appetite is different for different types of risk. You could, however, use the Pool Re structure and repeat it in series. Cyber should be the first one because it’s the biggest risk, then pandemic and then climate. I would argue climate change is not a systemic risk – yet.”

“Understanding the downside of risk to capital, the spread of risk, the reserves and how to invest, these are all things the industry can do better than any government could. But we insurers can’t honour the promissory note we sell – the promise to pay – when the risk becomes systemic”
_{Stephen Catlin
Convex}

Pool Re was created in the UK a year after the Irish Republican Army bombed London’s Baltic Exchange in 1992 as one of the world’s first public-private partnerships to cover insured losses caused by acts of terror.

Catlin is the chair of Pool Re’s advisory group, set up in July 2021 to examine the desirability of further public-private solutions for systemic risks. Before that, he chaired the steering group formed in April 2020 to work across the insurance industry, including with Pool Re, to strengthen the UK’s response to future pandemics. He gave evidence to HM Treasury for its strategic review of Pool Re, which began in October 2020.

Government backstop

From the start, Catlin advised against capping Pool Re’s government guarantee, arguing setting it too low could potentially wipe out the global property/casualty market. His argument was that, when there is systemic risk, the government steps in to mitigate the losses, while the role of insurers is to mitigate the government’s position. The Treasury did eventually agree, by October 2021, there should be no cap. Last year, it completed the strategic review of Pool Re, which had recommended risk be transferred off the public balance sheet and back to the market.

“Understanding the downside of risk to capital, the spread of risk, the reserves and how to invest, these are all things the industry can do better than any government could. But we insurers can’t honour the promissory note we sell – the promise to pay – when the risk becomes systemic,” Catlin says.

“The one good thing that came out of the pandemic was a clear recognition globally that if risk is systemic then the government pays – it has to. That’s an apolitical and ageographical comment because there is no choice but for government always to be the last port of call.”

The Pool Re model would not work in the US, Catlin stresses. The Terrorism Risk Insurance Act (Tria) created a temporary federal programme that provides for a transparent system of shared public and private compensation for certain insured losses resulting from a certified act of terrorism. “Like Pool Re, Tria was formed in the early 2000s, but it’s not as efficient because of the jurisdictional differences between the 50 federal states,” Catlin says.

Systemic cyber risk

Catlin has long warned of the threat cyber poses the re/insurance market. “As an insurer, I’m avoiding cyber like the plague because I’m so terrified of the systemic risk,” he says. “When I said 15 years ago cyber was an accident waiting to happen, I was accused of being mad, but more and more of us, and governments, are realising there is potentially a massive risk from cyber. The only way through is public-private partnership, which is what Pool Re does and very effectively.”

Coverage has changed over the past few years so a lot of property insurance will include a cyber exclusion, he points out. “Five years ago, there was a real risk from ‘silent cyber’ when you had ‘all perils’ as opposed to ‘named perils only’. The trouble with wording on exclusions, though, is whether it will stand up in court. As we’ve seen with the pandemic, ambiguous wording is problematic.

“The industry is light years better at collecting and analysing data than it was when I joined 50 years ago but look at the speed of technology now. We’re underwriters, not data scientists.”

If the internet “tipped over” for a single day, that would create a world economic crisis, he says, given the fact $1tn flows through it every 24 hours. If it were down for 10 working days, that would be “cataclysmic”.

Climate change

Catlin has a meeting with the Prudential Regulation Authority this week to discuss climate risk.

“I don’t think climate change will be a systemic risk for another five years, maybe 10, but we should be aware of it,” he says, stressing there is a lack of data.

“There’s no evidence at all yet that hurricanes and typhoons are affected by climate change. There’s no evidence either for the Texas freeze, which has occurred roughly every 10 years for the last 50 and so you can’t say climate change was a factor.”

Wildfires are often caused by poor forest management and inappropriate building regulations, he says.

“I used to have a house in Colorado and whenever I drove due west along Highway 17, I’d see 80 miles of conifers on the left-hand side of the road, on a steep incline. I used to think, ‘If that catches fire, because of a mirror or whatever, with the prevailing wind on the other side of the forest, that would burn to nothing within two to three days’. Felling trees en bloc is fairly easy to do but thinning and removing debris is not.”

Catlin has for more than 20 years been investing in data collection so scientists can understand better the impacts of climate change – the Catlin Arctic Survey, the Catlin Seaview Survey and, more recently, the Convex Seascape Survey. Importantly, all the data collected is shared freely with the global scientific community.

Announced in 2021, the Convex Seascape Survey is Convex’s multimillion-dollar partnership with the Blue Marine Foundation and the University of Exeter. This five-year global research programme is the biggest attempt yet to build greater understanding of the properties and capabilities of the ocean and its continental shelves in the Earth’s carbon cycle.

The research into blue carbon on the seascape was based on a “hunch”, Catlin says, that scientists had been “looking in the wrong place” for carbon sequestration. The sheer size of the seashore globally and of the continental shelf as a landmass makes the Amazon rainforest seem like a “pinprick”.

Catlin is the only representative of the insurance industry in Pool Re’s advisory group, but there are plans to add a second, he says. “Pooling different backgrounds is useful because everyone has their own perception of what risk is and I always find it useful to listen to people from other disciplines, such as the former chief of the Metropolitan Police.

“But as chairman of the advisory group and at the same time the only insurer in it, I’m talking too much, so we need someone else doing the weight of the talking for the insurance industry,” he says.

That someone has already been found and, although Catlin declines to name them, he hopes they will join the advisory group within the next six months.