Disaster Risk Financing & 97452 Insurance in the Disaster Risk Management Framework Background At a glance The exposure of developing countries to natural disasters is increasing. Due to a variety of factors,  The promotion of disaster risk financing and insurance ranging from growing concentration of population and is a key activity of the Hyogo Framework for Action’s assets in risky areas to increasing climatic variability, Priority Activity Number Four: To reduce underlying the economic costs of natural disasters are on the rise. risk factors. Priority Action Number Four of the Hyogo Framework  Disaster risk financing and insurance (DRFI) provides for Action’s five priority actions to reduce disaster financial protection against financial losses from losses is to reduce underlying risk factors. A key activity natural disasters, but it does not reduce the overall under this priority action is the promotion of the amount of losses; as such, DRFI is only one component development of financial risk-transfer mechanisms. of a comprehensive risk management strategy. While this recommendation is only one among many, the need for innovative risk financing and insurance  Disaster risk financing and insurance can be classified mechanisms is relevant to developing countries into four broad categories: Sovereign disaster risk exposed to natural hazards. financing, property catastrophe risk insurance, agricultural insurance, and disaster micro-insurance. Despite prevention and mitigation efforts, no country can fully insulate itself against losses from major Well designed disaster risk financing and insurance natural disasters. Disaster risk financing and insurance strategies can create financial incentives for (DRFI) solutions provide efficient means for countries governments and/or households to further mitigate to financially protect themselves from natural disasters their risks. For example, access to DRFI instruments can as well as foster disaster risk management (DRM) be made contingent upon implementation of a national efforts. DRFI strategies allow countries to increase their disaster risk management plan or compliance with financial response capacity in the aftermath of earthquake-resistance building codes. The simple fact disasters and to reduce the economic and fiscal burden that a Ministry of Finance is sensitized to a country’s of natural disasters by transferring excess losses to the exposure can help mobilize resources beyond disaster private capital and insurance markets. response in support of risk mitigation. Insurance programs can also be designed to discourage – rather Financial Protection and Disaster Risk than promote – risky behaviors. Management DRFI ensures the availability of post-disaster resources It is often argued that financial protection strategies and aims to minimize the cost of securing such treat the symptoms but not the causes of disasters. financing. Any cost-effective disaster risk financing and Good strategies can help governments cope with the insurance strategy first requires a detailed assessment financial impact of calamities, but do little to shelter of the economic and fiscal impact of natural disasters. populations and assets from the destruction of Catastrophe risk modeling techniques, initially cyclones and earthquakes. As such, it is important to developed for the insurance and reinsurance industry, underscore that financial protection is only one provide such tools to assess disasters’ likely impact component of a comprehensive disaster risk based on frequency and severity. management strategy. Disaster risk financing and insurance can be classified Financial protection will help governments mobilize into four broad categories: Sovereign disaster risk resources in the immediate aftermath of a disaster financing, property catastrophe risk insurance, while buffering the long-term fiscal impact of disasters. agricultural insurance, and disaster micro-insurance A comprehensive risk management strategy, however, (Figure 2). Although there is overlap among the should cover many other dimensions, including categories, they are useful for distinguishing the programs to better identify risks, to reduce the impact objectives and the scope of DRFI projects. They can be of adverse events, and to strengthen emergency defined as follows: services (Figure 1).  Sovereign disaster risk financing: Financial strategies to increase the financial response capacity of governments in the aftermath of natural disasters, while protecting their long-term fiscal balances.  Property catastrophe risk insurance: Develop catastrophe insurance markets and increase property catastrophe insurance penetration among homeowners, small and medium enterprises, and public entities.  Agricultural insurance: Develop programs for farmers, herders and agricultural financing institutions (e.g., rural banks, microfinance institutions) to increase their financial resilience to adverse natural hazards.  Disaster micro-insurance: Facilitate access to disaster insurance products to protect the livelihood of the poor against extreme weather events and promote disaster risk reduction in conjunction with social programs such as conditional cash transfer programs. Figure 1: Sovereign Disaster Risk Management Strategy Figure 2: Four Main Pillars of Disaster Risk Financing & Insurance Further Reading Cummins, J.D., and Mahul, O. (2010). Catastrophe Risk Financing in Developing Countries: Principles for Public Intervention. Washington, DC: World Bank. Contact Olivier Mahul, Program Coordinator, Disaster Risk Financing and Insurance, Capital Markets Practice (NBFI), and GFDRR, The World Bank, omahul@worldbank.org, +1(202) 458-8955 Updated March 2012 www.worldbank.org/fpd/drfi www.gfdrr.org