Unit 10: Insurance - Impact Underwriting PDF

422 |Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting INTRODUCTION LEARNING OBJECTIVES With core competencies in risk management and On completion of this chapter you will be able to: i...

422 |Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting INTRODUCTION LEARNING OBJECTIVES With core competencies in risk management and On completion of this chapter you will be able to: investment, the insurance sector is well positioned to embed climate, environmental and broader sustainability describe the role of insurance within the wider risks into decision-making. Many insurers - particularly financial system, and how climate-related financial life insurers as long-term institutional investors - focus risks are impacting the insurance sector; on managing climate risks and identifying opportunities describe how different types of insurance activities, in their investment portfolios. Others, especially general products and services can improve the quality and insurers, seek to directly address the causes and functioning of the natural environment and natural effects of climate change through impact underwriting, systems; incentivising policyholders to adopt more sustainable explain how impact underwriting can promote more behaviours, and enhancing climate resilience. environmentally and socially sustainable consumer Climate risk insurance products such as sovereign behaviour; and catastrophe risk pooling and weather index insurance cite examples and case studies of green and have been developed to improve the resilience of sustainable insurance products and services. communities heavily impacted by climate change. Beyond environmental sustainability, products such as index insurance can also enhance social sustainability through greater financial inclusion. 423 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting 10.1 THE ROLE OF INSURANCE IN THE FINANCIAL According to UNEP FI, the insurance industry therefore SYSTEM has three key roles relevant to addressing climate risk and promoting sustainability1: The insurance industry’s core business is to understand, manage and carry risk. By pricing and creating a Risk carrying: Insurance is a financial loss ‘shock market, risk can be pooled, diversified, managed and absorber’ that reinforces the financial resilience of mitigated so that individuals, households, businesses businesses and households to deal with unexpected and communities are protected, which in turn supports losses, such as those resulting from natural disasters, economic development. When an individual or company currency fluctuations, policy shifts, illness or accident. takes out an insurance policy, they make regular This in turn enables investment and long-term payments – premiums – to an insurer in exchange for planning. an agreement that the insurer will cover any losses that Risk management: The insurance sector’s materialise under certain circumstances. Premiums are contribution to managing risk extends beyond the pooled with those of other policyholders and invested losses it pays out, to identifying risks in the various to pay for claims made by policyholders. Insurance areas and assets that can be insured. Insurers facilitate companies – especially life insurers - are very significant the understanding and reduction of risk through institutional investors. Re-insurers help insurers diversify research, advocacy and support. Insurance pricing and and mitigate the risks they face by providing insurance other policy terms and conditions can provide clear against major catastrophes. risk signals and reward risk reduction efforts. Without insurance, risks would be borne solely by Institutional investment: Insurance premiums are individuals, households, businesses, communities and pooled and become part of a fund of financial assets others. Insurance removes the fear of catastrophic losses that insurers invest to generate additional funds and allows businesses and individuals to budget and with which to meet their obligations to policyholders. plan without unexpected variations in expenses. When Globally, it is estimated that the insurance industry has unexpected losses do arise, insurance helps those nearly $27 trillion in assets under management. affected overcome the resultant financial hardship. 424 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting 10.2 THE INSURANCE SECTOR AND CLIMATE-RELATED RISKS QUICK QUESTIONS: HOW MIGHT THE INSURANCE 10.2.1 The Costs of Climate Change INDUSTRY BE AFFECTED BY CLIMATE CHANGE AND OTHER According to the Sustainable Insurance Forum (SIF), the FORMS OF ENVIRONMENTAL DAMAGE? WHAT RISKS AND insurance sector has often led the financial services OPPORTUNITIES ARE THERE FOR THE INSURANCE INDUSTRY? sector’s investigation of and responses to climate risk and other environmental issues. This is because of Write your answer here before reading on. the sector’s immediate exposure to the physical risks and impacts involved, together with its advanced risk management expertise. The SIF notes that the sector’s risk transfer tools, together with its role as a long-term institutional investor, are highly relevant to aligning finance with the objectives of the Paris Agreement and wider goals such as the UN Sustainable Development Goals (SDGs)2. In Chapter 5, we learned that there are three main types of climate-related financial risks, following the classification system used by the Task Force on Climate- related Financial Disclosure (TCFD) and others: physical risks, transition risks and liability risks. Physical risks: arise from climate-related events, such as droughts, floods and storms. For insurers, in terms of their role as underwriters rather than institutional investors, the risks come from the impacts of such events, such as damage to property leading to claims from policyholders. In addition, claims from holders of business interruption and similar insurance may arise from disruptions in production or supply chains. Transition risks: arise from the process of adjustment towards a lower-carbon economy, including developments in climate policy, new disruptive technologies, or shifting consumer and investor sentiment. For insurance firms, transition risks 425 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting mainly relate to the potential re-pricing of carbon- an analysis of 59 studies in scientific journals published and Berkshire Hathaway. According to Aon Benfield as intensive financial assets, and the speed at which any between 2016-2017 reporting that 70 percent of these reported in the Insurance Journal, total economic losses such re-pricing might occur. This could lead to asset found that climate change has increased the risk of in the US from hurricanes in 2017 were nearly five times impairment or stranded assets impacting insurance extreme weather events3. the average of the preceding 16 years, losses from companies as institutional investors. wildfires were four times higher, and losses from other Similar conclusions have been reached by other severe storms some 60 percent higher6. Total economic Liability risks: arise from parties who have suffered regulatory and insurance sector bodies. In its December loss or damage from the effects of climate change losses from natural catastrophes in 2018 and 2019 were 2021 Financial Stability Report, for example, the European lower, but still very significant, estimated by Swiss Re as and who seek compensation from major emitters Insurance and Occupational Pensions Authority (EIOPA) and their insurers via general and public liability, approximately $176 billion and $140 billion, respectively7. noted that environmental – especially climate – risks are company directors’ and other forms of insurance. In the top material risks faced by insurers because of the Even if we succeed in limiting global warming to below addition, insurers (and other financial institutions) increasing frequency and intensity of extreme weather 2oC, as the IPCC’s AR6 sets out, the frequency and may face claims for failing to adequately address events 4. severity of extreme weather events – and hence the climate change in the context of fiduciary duty and/or associated physical risks and impacts - will increase. in the promotion and sales of financial products and According to MunichRE, 2021 was the second costliest Climate and related environmental risks will continue to services. As we saw in Chapter 5, NGOs and others are year on record in terms of insured losses from natural have an increasing financial impact on insurers and the increasingly using litigation as a tool, increasing liability disasters, mainly extreme weather-related events, with global economy overall. Despite many insurers’ advanced risks for businesses and their insurers. overall economic losses estimated at $280 billion - of risk management systems, and the growing appreciation which approximately $120 were insured losses. Hurricane and management of climate risks in particular, the impact We saw in Chapter 2 that, according to the latest report Ida alone was estimated to have cost insurers some from the IPCC (AR6), global warming will increase both of unforeseen physical risks (that is, even more frequent $36 billion. MunichRE notes that “… many of the weather and more severe extreme weather events) may impose the severity and frequency of weather-related natural catastrophes fit in with the expected consequences of climate disasters, thereby increasing the physical risks for further significant costs on insurers. The increasing change, making greater loss preparedness and climate frequency and severity of extreme weather events is insurers. The Issues Paper on Climate Risks to the Insurance protection a matter of urgency.” 5 The difference between Sector, published by the Sustainable Insurance Forum also likely to make increasing numbers of properties and the total economic losses from a climate-related event businesses uninsurable, as heightened risk increases (SIF) and the International Association of Insurance (such as a tropical storm) or series of such events and the Supervisors (IAIS) in July 2018, summarises the strong premiums and to the point where they become insured losses is known as the climate risk protection gap. unaffordable. scientific consensus that climate change is influencing the frequency and severity of extreme weather events such 2017, though, was the most expensive year on record as droughts, storms, floods and wildfires, including: (to date) for insurance companies. Extreme weather events and other natural disasters, including Hurricanes research by the World Meteorological Organization Harvey, Irma and Maria, cost an estimated $330 billion concluding that 80 percent of natural disasters in total economic losses, with insured losses estimated between 2005 and 2015 were in some way climate- at $135 billion meaning there was a sizeable climate related; and risk protection gap. Many large global insurers posted significant losses for 2017, including Lloyd’s of London 426 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting READING: 2017 SET TO BE AMONG THE MOST Insurance at Aviva and Chair of ClimateWise, the Insurers must start proactively exploring where, EXPENSIVE ON RECORD AFTER YEAR OF CLIMATE network convened by the University of Cambridge within their own value chains, and collaboratively DISASTERS, INSURANCE LEADERS WARN Institute for Sustainability Leadership (CISL). across the industry, these opportunities lie.” ClimateWise, which is committed to helping A climate risk protection gap of US$1.7 trillion caused insurers and society respond to the risks of climate Source: Cambridge Institute for Sustainability Leadership (2017) 2017 Set to Be Among the Most Expensive on Record After Year of by extreme weather over the past decade opens up change, has published The ClimateWise Principles Climate Disasters, Insurance Leaders Warn (online). Available at: many new opportunities for insurers, says ClimateWise. Independent Review 2017, an annual assessment https://www.cisl.cam.ac.uk/business-action/sustainable- of its members. “The climate risk protection gap finance/climatewise/news/2017-set-to-be-among-the-most- Natural disasters and extreme weather impacting expensive-on-record [Accessed: 23 January 2023] presents insurers with one of our industry’s every corner of the world mean 2017 is on track most profound challenges. The cost of extending to become one of the most expensive on record, sustainable insurance cover is now simply not according to ClimateWise, a global network of affordable in many places. A proactive response is insurance and industry organisations. required.” As major institutional investors, insurers are a key source Hurricane Harvey, which caused US$180 billion in of long-term finance (sometimes referred to as “patient Throughout the past decade, just 30% of losses when it hit Texas in August, was just one of capital”) for firms, sectors and technologies seeking to catastrophic losses were insured, producing a the many events that exposed the growing climate decarbonise and develop climate-resilient infrastructure. cumulative shortfall of US$1.7 trillion, according to risk protection gap and the urgent need to improve Swiss Re, for example, estimates “an annual US$920 ClimateWise member Swiss Re. The majority of this the resilience of cities. In particular, the devastation billion opportunity for long-term investors over the shortfall was borne by government and civil society. highlighted the pressing importance of insurance, next 20 years” in emerging markets and expects that with only one-in-five homeowners in Greater With 50% of the world’s population now living “[infrastructure] projects can deliver attractive yields Houston having flood insurance, and insured losses in cities, and 1.5 million people migrating to to help insurers match their long-term liabilities, while amounting to less than US$19 billion – or just 10.5% urban areas every week, improving resilience to also offering region and asset-class diversification, and – of the total losses. climate-related disasters is more important than opportunity for environmentally and socially responsible ever. “Cities are at the epicentre of the climate risk investing” 8. BlackRock’s 2021 Global Insurance Report In developing countries, insurance penetration protection gap crisis, given their concentration found that the great majority (95%) of senior insurance is even lower, leaving countries highly vulnerable of economic activity and vulnerability,” said Tom executives believed climate risk would have a significant when floods, droughts or hurricanes strike, as seen Herbstein, ClimateWise Director. “The challenge is impact on how their firms constructed their investment in Bangladesh and India. how to extend insurance cover in a world where portfolios. Half of the executives surveyed reported that “Our industry has been shaken by climate perils climate risk exposure continues to grow. “While more sustainable portfolios would generate better risk impacting urban centres, and 2017 is on track to the climate risk protection gap presents a very adjusted performance, and a similar proportion stated become one of the most expensive years on record,” real challenge for cities, there are also many they had turned down an investment opportunity due to said Maurice Tulloch, Chairman of Global General opportunities for new partnerships and products. ESG concerns9. 427 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting There are some significant barriers and obstacles that In 2016, the European Union introduced a new, Europe- European Green Deal by releasing up to €90 billion for need to be removed, however, before insurers can unlock wide system for insurance regulation known as ‘Solvency investment by insurers10. the full potential of their financial capacity as investors II’. This sets out a risk-based, EU-wide approach to the in environmentally sustainable infrastructure and other assessment of capital adequacy, risk management and In the US, building on the work of regulators in other long-term, sustainable assets. These include complex reporting for insurers. It follows a ‘three-pillar’ approach jurisdictions, 2021 also saw regulators introduce new regulatory restrictions, especially relating to capital similar to Basel III for banks, described in earlier chapters: requirements and guidance for insurers relating to requirements, and a lack of availability of investment climate risks. The New York State Department of Financial opportunities of the scale required. Pillar 1: defines the quantitative requirements for the Services (NYDFS), which supervises over 1,800 insurers amount of capital that insurers must hold with combined assets of $5.5 trillion, published final 10.2.2 Insurance Regulation and Climate Change Pillar 2: sets out the supervisory process to ensure guidance on identifying, managing, and disclosing climate There is no single, global insurance regulator, although that insurers hold sufficient capital against risks, and risks. The NYDFS expects insurers to take a strategic national regulators are brought together through bodies that risk governance and management systems are approach to managing climate risks that considers both such as the Network for Greening the Financial System adequate current and forward-looking risks and identifies actions (examined in previous chapters; in some countries, needed to manage those risks in a manner proportionate Pillar 3: defines transparency and minimum disclosure to the nature, scale, and complexity of insurers’ insurers as major financial institutions are overseen by obligations for insurers businesses. Specifically, insurers should: central banks in respect of prudential requirements) and the International Association of Insurance Supervisors The Solvency II regime requires insurers to be capitalised integrate the consideration of climate risks into their (IAIS) briefly introduced previously. As is the case in to withstand losses of a 1 in 200-year event, over a one- governance structures; banking and investment, in recent years insurance year time horizon. This was developed before climate risk regulators have taken greater interest in climate risks, became a priority for EU regulators, and some believe consider the current and forward-looking impact of from a financial stability perspective, with the European the approach is now insufficient. Some have called for a climate-related risks using time horizons appropriately Union playing a leading role. 1 in 100-year approach, and others for the introduction tailored to the insurer, its activities, and the decisions of a green supporting factor or a brown penalty factor for being made; The Sustainable Insurance Forum (SIF) was launched Pillar 1 capital requirements for insurers to incentivise embed climate risks in existing financial risk in 2016 to promote cooperation on critical sustainable them to decarbonise their investment portfolios. management frameworks and analyse the impact of insurance challenges, such as climate change. It climate risks on existing risk factors; comprises an international network of insurance In 2021, the European Commission proposed a series regulators and supervisors, and includes insurance of reforms to Solvency II, including the potential use scenario analysis to inform business strategies supervisors and regulators from more than 20 countries introduction of a brown penalty factor. The European and risk assessment and identification; and including Australia, Brazil, France, Germany, Ghana, Insurance and Occupational Pension Authority (EIOPA) disclose climate risks in line with the recommendations Jamaica, Morocco, the Netherlands, Singapore, the UK has been tasked with examining the evidence for and the of the Task Force on Climate-related Financial and the US, as well as the IAIS. potential impacts of this, to report in 2023. In addition, Disclosures (TCFD)11. the Commission introduced a wider series of proposals designed to ensure greater identification and disclosure of climate-related and environmental risks, to support the economic recovery from COVID-19 and to support the 428 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting As described in Chapter 3, in March 2022 the US Securities and Exchange Commission proposed rule changes requiring firms to disclose climate-related QUICK QUESTIONS: WHAT DO INSURANCE REGULATORS financial risks in line with the TCFD’s recommendations, including disclosure of material financed (Scope 3) IN THE MARKET(S) YOU WORK IN REQUIRE IN RELATION TO greenhouse gas emissions. This will encompass many CAPITAL REQUIRMENTS AND DISCLOSURES RELATING TO major insurers to the extent that they are regulated by CLIMATE CHANGE? the SEC to access US capital markets. Together with the European Commission’s proposals, the continuing Write your answer here before reading on. development of regulation in major capital markets should unlock and incentivise the decarbonisation of insurers’ investment portfolios over time. 429 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting 10.3 UN PRINCIPLES FOR SUSTAINABLE INSURANCE are interlinked with physical and transition risks. It also AND THE SUSTAINABLE INSURANCE FORUM The four Principles for Sustainable Insurance are: looks at opportunities for the insurance sector, from 1. We will embed in our decision-making developing new products and services to helping clients With a strong interest as risk manager, risk carrier, assess and manage risk and improve their resilience to environmental, social and governance issues underwriter and investor in identifying and mitigating the climate risks13. We look at some examples of these later in relevant to our insurance business. risks posed by climate change, the insurance profession this chapter. has often taken the lead within the financial services 2. We will work together with our clients and sector on environmental sustainability issues. This has business partners to raise awareness of Insurance regulators have also been proactive in included promoting action to understand the potential environmental, social and governance issues, promoting environmental sustainability and a more impacts of climate change, conducting sophisticated manage risk, and develop solutions. comprehensive approach to climate risk. The Sustainable climate modelling, data analysis and research, and 3. We will work together with governments, Insurance Forum (SIF), mentioned previously, was developing new products and services to support regulators and other key stakeholders to launched in 2016 to promote cooperation on critical sustainability. The insurance profession has also acted promote widespread action across society on sustainable insurance challenges, such as climate change. (and acts) collectively, and was a significant supporter of environmental, social and governance issues. Convened by UNEP FI, the SIF is an international network the establishment of the UN Environment Programme’s of insurance regulators and supervisors. Its 30 members Finance Initiative (UNEP FI) in the late 1990s. In 2012, 4. We will demonstrate accountability and cover more than 90% of the global insurance market. the UN Principles for Sustainable Insurance (UN PSI) transparency in regularly disclosing publicly our were launched at the UN Conference on Sustainable progress in implementing the Principles12. The SIF is very focused on climate risks, and in May 2021, Development. in conjunction with the International Association of Insurance Supervisors (IAIS) it published a paper for its The UN PSI serve as a global framework for the members on the regulation of climate risks. The SIF/IAIS insurance sector to address environmental, social and Application Paper on the Supervision of Climate-related Risks governance risks and opportunities. Endorsed by the UN The UN PSI provide a forum for insurers to develop in the Insurance Sector aims to provide regulators with Secretary-General, the Principles have led to the largest frameworks, standards, guidance and tools to promote guidance on integrating climate risk into their supervisory collaborative initiative between the UN and the insurance a sustainable approach to insurance and share best activities. It covers areas including corporate governance, sector. As of February 2021, over 140 organisations practice. In November 2018, UNEP FI, together with risk management, investments, public disclosures and worldwide have adopted the Principles, including insurers 22 large global insurers and reinsurers, announced a regulatory reporting14. By providing guidance, the SIF representing more than 25% of world premium volume partnership to develop a new generation of climate risk and IAIS aim to encourage greater co-ordination and and US$14 trillion in assets under management. The assessment tools that insurers could use to identify, harmonisation of regulatory approaches, as we have Principles are part of the insurance sector’s criteria for disclose and manage climate risks in line with the discussed in earlier chapters. inclusion in the Dow Jones Sustainability Indices and TCFD’s recommendations. “Insuring the climate transition: FTSE4Good. Enhancing the insurance industry’s assessment of climate change futures” was published in 2021, and examines physical, transition and liability risks in insurance underwriting portfolios, with a focus on scenario analysis, the growing importance of liability risks, and how these 430 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting 10.4 PROMOTING SUSTAINABILITY THROUGH Life insurers tend to be more affected by risks from pollution, oil spills or other forms of environmental INSURANCE – IMPACT UNDERWRITING their investments on the asset side of their balance damage. Climate insurance (also known as ‘climate risk sheets, as they need to match assets to liabilities over insurance’) provides protection against (usually) extreme Whilst many insurers continue to focus on enhancing the longer term, and because their liabilities tend to be weather events such as drought, floods and storms. We their climate-related financial risk management in order less volatile. They rely on investment returns to fulfil look at this in more detail in Section 10.5. to better price premiums and manage their investment their longer-term obligations on their savings, pension portfolios, others are developing new products and and annuity liabilities. As such, the main way in which Green insurance, by contrast, seeks to encourage services designed to help mitigate the effects of climate life insurers can promote sustainability is through their and support sustainable activities and behaviour by change and promote sustainability more broadly. investment portfolios. We have already considered the individuals, companies and others. It includes green role of institutional investors in bond and equity markets insurance products and services that allow an insurance The types of products that insurance firms offer vary premium differentiation on the basis of environmentally in previous chapters. according to the type of insurance services they provide. relevant characteristics/behaviour, and products and Broadly, there are three categories of insurance firm: General insurers tend to face more risks from their services that are tailored for promoting ‘green’ activities, liabilities than their assets, which are often shorter such as the use of renewable energy or other carbon- Life insurers: provide benefits in the event of death, in duration, predominantly from annual contracts of reducing activities. This is increasingly referred to as retirement or changes in health, and also provide insurance. As such, an important way that general ‘impact underwriting’, which is the term we use on savings mechanisms for households. Products include insurers can promote sustainability and mitigate the the next page - insurance products and services that annuities, conventional life assurance and other long- impact of climate change is by offering new green and incentivise policyholders to adopt more sustainable term savings products. sustainable products and services that may encourage behaviour, contributing to climate mitigation and/or General insurers (also known as non-life insurers changes in individual or corporate behaviour, referred to adaptation efforts. or property and casualty insurers): provide non-life as ‘impact underwriting’. insurance, which includes property cover, health insurance, liability policies and miscellaneous General insurance products and services are generally financial loss cover for individuals, companies and split into two categories: personal insurance, where others. Certain real economy activities require, either the policyholder is a private individual, and commercial contractually or as a matter of public policy, insurance insurance, where the policyholder is a firm or some other cover to be retained (for example, car insurance or kind of organisation. New products have emerged in both employers’ liability). categories to assist with the transition to a sustainable, low-carbon world, as we go on to describe next. Reinsurers: sell insurance to other insurance companies. They enable the primary insurance Environmental, climate and green insurance companies described previously to cede a portion of Although ‘environmental’, ‘climate’ and ‘green’ insurance risks they do not want to retain. Reinsurers pursue may sound similar, they are in fact quite different. similar business models to primary insurers, albeit Environmental insurance provides protection from pooling a more diverse set of risks. actual/potential liabilities arising from environmental damage; for example, coverage to protect against 431 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting 10.4.1 Impact Underwriting: Personal Insurance Personal insurance helps protect individuals from QUICK QUESTION: CAN YOU THINK OF ANY INSURANCE potential losses they could not afford to cover on their PRODUCTS OR SERVICES THAT MIGHT FIT WITH own. Insurance enables people to, for example, drive a car and own a home without risking major financial loss, OUR DEFINITION OF GREEN INSURANCE / IMPACT and encourages individuals to save and invest for the UNDERWRITING? DO YOU HOLD ANY OF THESE? future. Write your answer here before reading on. Motor Insurance Road transport is a significant component of the modern economy. There are some one billion vehicles on the road worldwide, generating approximately 17% of man-made greenhouse gases (GHGs). It is generally mandatory for drivers to have third-party liability insurance. There are several ways in which motor insurers can enhance environmental sustainability through impact underwriting. One way is through offering discounts for environmentally-friendly vehicles. Some motor insurance companies offer lower premiums for those who drive hybrid vehicles. A similar discount may also apply to hybrid-electric boats and yachts, or cars that use alternative energy sources, such as natural gas, hydrogen or ethanol. Some motor policies include an option of adding an endorsement to upgrade to a hybrid vehicle after the loss of the current vehicle. In some cases, insurers may seek to mitigate climate change by offsetting some or all of the CO2 produced by the insured vehicle. Co-op Insurance in the UK, for example, offsets 10% of the car’s emissions during the first year of the policy (and offers a similar scheme for home insurance, too), using part of the premium charged to all policyholders. The funds are used to support climate change mitigation and/or adaptation projects. 432 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting Specific electric vehicle insurance has also been developed, with discounts for purchasers, although given the relatively UBI insurance is available to individuals and to high costs of fully electric vehicles, premiums may still be high when compared with petrol or diesel alternatives. There organisations managing fleets of commercial vehicles are additional features that insurers in some countries need to consider when designing insurance policies for electric (local government, public transport, logistics companies). vehicles, including whether the electric battery is owned, or leased separately from the vehicle itself (which is the case for In the UK, according to GlobalData, by 2019 nearly a minority of vehicles), as well as the need for public liability insurance in the event of an accident involving the charger 10% of drivers overall, and more than 20% of younger cable. Some insurers, as in the case study below, also offer recovery to an electric chargepoint if a vehicle runs out of drivers, had adopted UBI15. Usage-based fleet insurance electric power. is predicted to grow more rapidly than personal car insurance in all major markets, as linking the cost of insurance to usage is especially attractive to companies CASE STUDY: LV= ELECTRIC CAR INSURANCE with large fleets of commercial vehicles. LV= is a brand name of British mutual insurer Liverpool Victoria, established in 1843. As a major motor insurer, In both PHYD and PAYD, devices or sensors embedded it provides a wide range of policies to drivers, including electric car insurance with additional features to reflect in vehicles, or smartphone-based apps, record telemetry ownership and use of electric vehicles. All electric car policies include: tracking vehicle data such as acceleration, braking, distance, speed, journey time, the amount of time the recovery to the nearest electric chargepoint (in the UK) if the vehicle runs out of charge. LV= also has a engine is idling, fuel consumption and efficiency, and partnership with an electric vehicle charging assistance company, which helps if no chargepoint is nearby; many more data points. Many insurers are now using cover for electric charging cables, wall boxes and adaptors; smartphone-based systems as an easier (and cheaper) way to track vehicles and driving styles. They use GPS battery cover for accidental damage, fire and theft – even if the battery is leased separately from the car; and satellites to record usage rather than relying on ‘black vehicle software updates are covered as standard. boxes’ and sensors embedded in the vehicle. The telemetry recorded can then be analysed by the insurer In addition, policyholders can pay an additional premium for hire car cover, which will replace their electric to price driver premiums more accurately, based on vehicle with an electric or hybrid hire car during periods of repair. distance driven (PAYD) and/or driving style (PHYD), with lower premiums available for more efficient and/ Source: LV (2022) www.lv.com/car-insurance/electric-car-insurance or careful drivers. According to some estimates, UBI subscribers decrease their miles driven by 10% or more, saving drivers money while reducing accidents, Another way that motor insurers can seek to promote more sustainable vehicle usage is through ‘Usage-Based Insurance’ congestion and air pollution. (UBI), of which there are two basic types: Pay How You Drive (PHYD), where the insurance premium is based on how a vehicle is driven, taking into account factors including speed, acceleration and braking Pay As You Drive (PAYD), where the premium is typically calculated based on the distance driven, and perhaps also the type and length of average/typical journeys. 433 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting UBI schemes are growing in popularity, not just because of their environmental benefits, but also because of the cheaper insurance available to individual drivers and QUICK QUESTION: WHAT WOULD ENCOURAGE YOU TO fleet managers. According to a report by Ptolemus, a consulting firm, there were more than 20 million active SWITCH TO USAGE-BASED INSURANCE, AS A DRIVER? UBI policies globally, with 372 active UBI schemes in 58 Write your answer here before reading on. countries (2018)16. This is still only a small part of the overall motor insurance market, however, accounting for some $15 billion of premiums compared with $715 billion in total, so there is considerable room for growth. Frost & Sullivan estimates that the UBI market will grow to cover 100 million drivers by 2025, with significant growth in the US, Europe and China17. Recent regulatory changes in China to enable UBI to be offered by insurers, combined with the high penetration of smartphones, means that the growth of UBI in the world’s largest automotive market is likely to be rapid. 434 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting Home (domestic) insurance promoting energy efficiency measures when buying, Residential and commercial buildings are estimated selling and renovating homes. Many national and local CASE STUDY: NATURESAVE HOME INSURANCE to account for over 12% of global water use, 40% of building codes are referenced to the International Green global CO2 emissions, and more than 70% of electricity Construction Code (IgCC)18, which promotes a whole- Naturesave Insurance describes itself as “the UK’s consumption. Some insurers offer to offset some or all of system approach to the design, construction and leading ethical insurance provider”, offering home, the CO2 emissions from a policyholder’s home, although operation of buildings, and sets out criteria in areas travel, business and renewable energy insurance. one of the best-known examples (Co-Op Insurance in the including energy efficiency, resource conservation, indoor environmental quality and building performance that are Founded in 1993, two years later Naturesave UK) only offsets 10% of emissions during the first year designed to improve sustainability. established a charitable trust to provide grants of the policy. Others, such as Naturesave (see the case for environmental projects, fund a tree planting study opposite), offer discounts to policyholders who Insurers are helping promote green homes in a number scheme and provide advice for small businesses make energy efficiency improvements to their homes, of different ways. Some insurers offer lower premiums for looking to become more sustainable. 10% of all incentivising more sustainable lifestyle choices. homes that meet stringent efficiency and sustainability personal insurance premiums are donated to the More generally, there is growing recognition of the standards, often based on or linked to the IgCC or similar Naturesave Trust to fund its activities. In addition, benefits of building green homes, or retrofitting existing national codes. Others may offer discounts for properties the insurer is a carbon-neutral organisation, has properties to make them much more energy efficient. that adopt ‘smart home’ products, such as smart water a no-fly business travel policy, and encourages According to the US Green Building Council, green homes sensors that shut off water sources when leaks are staff not to fly when taking their holidays. In its use up to 40% less energy and up to 50% less water detected. business strategy, activities and corporate culture, than comparable standard homes. Moreover, the use Naturesave “practices what it preaches”. Other insurers offer products that cover rebuilding of toxin-free building materials helps reduce indoor air costs for damaged buildings and homes to upgrade To encourage policyholders to reduce emissions, pollution, which in some cases can be more harmful than them to meet better environmental standards, as well Naturesave’s home insurance policies offer outdoor air pollution. ‘Passive houses’, buildings designed as insurance products that replace damaged appliances discounts for installing loft insulation, double- without the need for heating and cooling systems, with energy-efficient ones. This is sometimes referred to glazing and energy efficient appliances. Policies use a combination of positioning; natural ventilation as ‘green upgrade’ insurance. also include cover for domestic renewable energy and shading; efficient construction, roof and window systems (such as heat pumps and solar panels) design; insulation; and solar/other renewable energy to For homeowners who generate their own renewable as standard – other insurers often charge an minimise heat loss (in colder climates) and maximise heat energy and sell surplus energy back to the local power additional premium for these. Naturesave’s gains. Passive houses are estimated to reduce energy grid, there are now insurance policies that cover both expertise also enables them to insure non-standard consumption by up to 90%, according to the International the income lost when there is a power outage and the homes, such as passive houses, that other insurers Passive House Association (IPHA). extra expense to the homeowner of temporarily buying would struggle to provide cover for at an affordable electricity from another source. price. In many countries, national building codes and standards have been or are being updated to encourage or With sustainability embedded into its strategy, require the building of more energy-efficient homes. culture and insurance offer, Naturesave is a good The introduction of compulsory Energy Performance example of impact underwriting in action. Certificates and the like also provides a mechanism for Source: Naturesave (2022) https://www.naturesave.co.uk 435 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting Travel Insurance 10.4.1 Impact Underwriting: Commercial and Corporate pricing of risk and insurance. As more organisations Prior to the COVID-19 pandemic, air travel accounted for Insurance adopt the recommendations of the TCFD for identifying, approximately 2.5% of global GHG emissions, but travel Commercial and corporate insurance protects disclosing and managing climate-related risks, and fell by nearly 70% in 2020, according to the International businesses and other organisations from potential as additional guidance is developed to encourage Air Transport Association (IATA). Predictions vary, but losses they could not afford to cover on their own. This standardised approaches to TCFD reporting for different many believe it may not recover to pre-pandemic levels in turn allows businesses to operate when otherwise industry sectors, we are likely to see the development of until 2025 at the earliest. it might be too risky to do so. In this way, insurance more standardised commercial insurance products and supports entrepreneurialism, innovation and economic services in this area, too. As with motor and home insurance as discussed development by managing risks that could deter people previously, some travel insurers offer policyholders In the following section, we focus mainly on green from starting and growing businesses. the chance to offset some or all of the CO2 emissions commercial insurance that encourages and supports from (usually) their flights. Unlike the Co-Op car and In terms of climate-related and broader sustainability sustainability by incentivising the adoption of energy home insurance examples, however, in many cases risks, insurance can cover a wide range of risks to which efficiency measures, and helps businesses manage the policyholders pay an extra fee to support climate change businesses are exposed, including, but by no means risks of investing in new, energy efficient technologies. mitigation and/or adaptation projects rather than this limited, to: Before we do, though, we present a short case study of coming from the premium paid by all policyholders. an innovative example of a bespoke insurance product catastrophic risks (for example, hurricanes and that promotes climate resilience. It may be argued, however, that unlike some of the tropical storms); examples of motor and home insurance discussed direct losses caused by extreme weather events (such previously, green travel insurance cannot really be as flooding); described as a form of impact underwriting because it does not incentivise policyholders to adopt more business and supply-chain interruption; and sustainable behaviour. In fact, it may encourage the legal liabilities arising from environmental and other opposite, by encouraging individuals to travel more damage caused by an organisation’s activities. because they believe offsetting fully compensates for the emissions they generate. From this perspective, it Policies for these and similar risks for organisations often is hard to see how travel insurance can be considered tend to be underwritten on a bespoke basis, given that “sustainable” unless it directly incentivises more the exposure to and risk profile of climate, environmental environmentally sustainable forms of transport (for and other sustainability risks will vary on a case-by-case example, electric rail versus air travel). basis. A policyholder’s location(s), business activities, supply chains and many other factors will impact the 436 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting CASE STUDY: CORAL REEF INSURANCE The Reef’s coastal wetlands, lagoons, mangrove insurance paved the way for a return to business as forests and seagrass beds are home to an usual as fast as possible for locals. Veronica Scotti, Swiss Re’s Chairperson: Public Sector abundance of marine life, and guard against storms Solutions, introduces an innovative example of impact and coastal erosion. It is also intrinsically linked to Source: Swiss Re (2021) How insurance is protecting the world’s second biggest coral reef (online). Available at: https://www. underwriting designed to enhance the resilience of coral the region’s economy, helping support around USD swissre.com/risk-knowledge/mitigating-climate-risk/insurance- reefs. 6.2 billion per year through tourism, commercial protecting-coral-reef.html [Accessed: 23 January 2023] fishing and coastal development. By 2030, that may More than half of global GDP is dependent on fall by half due to coral reef decline. healthy ecosystems and biodiversity, but challenges like climate change and urban development are In October 2020, Hurricane Delta hit the coast Commercial Property Insurance putting our natural world under incredible pressure. of Quintana Roo, on Mexico’s Yucatan Peninsula, Traditional commercial property insurance covers the causing widespread damage to both land and sea replacement or repair of damaged property, using Among the most captivating examples of important – including the Mesoamerican Reef. Thankfully, the materials similar to those in the original construction, or ecosystems under threat are coral reefs. They regional government of Quintana Roo had insured basing repayment on the value of the original equipment protect coastal areas from storms and wave this stretch of the reef, through work Swiss Re had or building. Insurers now offer green insurance products, erosion, become tourist destinations and generate undertaken with The Nature Conservancy (TNC) to which replace standard materials with environmentally- economic activity. They’re also incredibly diverse create an insurance product specifically designed friendly or more energy-efficient ones when repairs are marine habitats, and around 25% of the world’s fish for the reef. The cover is designed to support made. In the event of a total loss, some policies may depend on them. the health of the coral reef and help it recover cover the costs of rebuilding as a ‘green’ building – in fact, But they are in dire trouble. By 2040, a destructive from damage, and protect the livelihoods of local this may be required in some countries and regions by cocktail of climate-related problems could mean communities whose jobs rely on fishing and tourism. national and local building codes. a global decline of between 70% and 90% of coral Swiss Re also provided assistance to train “Reef reefs. That combination includes rising average sea Brigades” - teams of community members who are temperatures, storm damage and the results of equipped to repair the reef after a storm. human activity, such as trawler fishing. Following Hurricane Delta, the policy paid out The Mesoamerican Reef is one example of an almost $800,000 to help fund the repair and ecosystem facing such threats. Stretching nearly restoration of the reef – the world’s first coral reef 1,000km along the Caribbean coasts of Mexico, insurance payout. Without the cover, according Belize, Guatemala and Honduras, it is the largest to Quintana Roo’s environment secretary Efraín reef system in the Americas. Globally, its only rival Villanueva Arcos, paying for the clear-up and in terms of size and scale is the Great Barrier Reef. restoration work could have been difficult. The rapid clean-up and repairs facilitated by the 437 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting CASE STUDY: ALLIANZ INSURANCE GREEN Green building minimises consumption and for commercial property, and this summer green CLAUSES effluence clauses were rolled out for private homes. Going To support activity among clients, AGCS recently green, or better still, building green, is rewarded by A ‘Green Clause’ for property coverage provides a joint the company. began promoting the advancement of ‘green platform in order to tackle climate change. buildings’. Green buildings are built or remodelled Good sense, best practice Turn off your lights, use less heating, take public according to environmental recommendations to improve air and water quality, reduce solid waste The approach also makes good business sense. transportation, switch to energy-saving bulbs and and conserve natural resources. But they also Green buildings are designed with state-of-the- so on. By now, people are used to all the tips for provide economic benefits: reduced operating art specifications for electric systems, heating saving the environment, and many have decided to costs, enhanced asset value and profits, as well as and air conditioning systems. Plus, they go put in that extra effort to combat global warming. improved employee productivity. through a more rigid commissioning process to Builders and businesses too, are given much assure that the systems have been installed to good advice as discussed and beyond strict legal To do this, the insurer has expanded its property manufacturers’ expectations. Aside from better guidelines, and they are often eager to design their coverage to include ‘certified green building efficiency, AGCS expects a better insurance risk structures with the environment in mind, even if coverage’ and ‘green property upgrade coverage’. from such procedures. Commercial property it means additional costs. After all, studies show The former protects buildings that are green- losses frequently come from electric fires, heating that office buildings account for 70% of electricity certified, while the latter even covers those and air conditioning fires and plumbing leaks that consumption and almost half of energy use, carbon buildings that will be rebuilt to be environmentally arise when these infrastructure elements are not dioxide (CO2) emissions and raw materials used in friendlier after a loss. regularly renewed. the industrial world. But if loss events occur, these Green clauses in insurance policies set “Right now, we are working with AGCS units in structures are often only covered to restore them environmental standards, or refer to environmental local markets to identify standards, from building to the level the law requires. standards in local markets that are considered materials to the use of low-energy equipment,” says Like most other industries, insurers are responding industry standards. “The key to this coverage is the Hummel, and adds: “Different regions have different to global warming. They work to reduce not only upgrade element. After an insured suffers a loss, awareness levels of climate change and what can their own ‘carbon footprint’ but also that of their we want to direct customers to environmentally be done to tackle it. Our goal is to bring them to a industrial clients. “We don’t want to limit our friendly products,” says Sarah Heise, a property global standard. response by withdrawing from areas with increased practice leader in the US market for AGCS. Source: Risk Futures (2008). Archived at: https://slidelegend. wind or flood exposure like coastal regions,” says com/green-allianz-global-corporate-specialty_5a71fed81723dd This kind of cover was first pioneered at Allianz Tassilo Hummel, Global Head of Property Insurance 98df89b4c9.html by Fireman’s Fund, an Allianz general insurance at Allianz Global Corporate & Specialty (AGCS). subsidiary in the United States. In 2007, Fireman’s Fund introduced its ‘Green Building’ program 438 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting Renewable Energy Insurance Renewable energy generation has increased dramatically CASE STUDY: RENEWABLE ENERGY INSURANCE IN BULGARIA in recent years, driven by government policy, changing customer attitudes and advances in technology. A wide The solar industry has experienced rapid expansion in recent years. This has been accompanied by overly range of insurance products has emerged, tailored optimistic forecasts, however. According to SeeNews, which reports business, economic and financial news towards the renewable energy market. They include from South-Eastern Europe, their recent study found the majority of photovoltaic installations in Bulgaria coverage spanning construction and operational risks, underperformed their forecast P50 model (a 50% probability that production in a year will be at least a specific business interruption, liability or technical failure, and amount) by more than 6%, while 25% of the plants underperformed by over 10%. loss of earnings due to discrepancies in actual versus expected energy generation. At the same time, many solar developers seek long-term equity to fund projects from a variety of sources, ranging from public markets to private equity. This means the solar industry faces increasing demand to meet investors’ expectations. Against this backdrop, Bulgaria-based Renewable Energy Insurance Broker (REIB) has recently partnered with Colonnade, an “A”-rated insurance company, to offer a solution that hedges against reduced yields. The solution takes into account several factors that may lead to underperformance: less solar radiation than forecast; performance of the facility’s components below the minimum performance forecast by the manufacturer; power grid interruptions; and above-average or excessive wear The insurance premium is based on the forecast energy return. At the end of the insurance term, this projection is compared with the real energy return. In the event where the actual performance was less than 90% of the projected output, the investor is entitled to a payout. The amount is calculated based on the gap between the real and 90% of the forecast yield multiplied by the electricity price according to the relevant power purchase agreement. For example (assuming electricity price is €0.08): 100% forecast 90% forecast (insured level) Actual Yield Loss Amount 1,800,000 kWh 1,620,000 kWh 1,500,000 kWh 120,000 x €0.08 = €9,600 Source: Adapted from https://seenews.com/press_release/view/case-study-renewable-energy-insurance-broker-reib-764793 [Accessed: 23 January 2023] 439 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting READING: RENEWABLE ENERGY INSURANCE: electricity generation in 2016, most of this was Cover against other political risks may also be RENEWED EFFORTS produced by hydropower. Wind generated 4% and necessary, in case such eventualities as changing solar 1.5%. tariff rates or outbreaks of civil unrest, for example, Global renewable energy capacity grew at record prevent access to facilities. It is also not unheard rates in 2016, with investments in solar greater Yet the clear upward trend in the use of renewables of for a government to seize assets, or to stop than investment in any other electricity-producing and the fall in costs have both been very clear businesses using foreign exchange to take money technology during that year. David Adams looks at how during recent years. So how have insurers out of the country. None of these issues is unique to the insurance market is responding. responded to the expansion of the renewable renewable energy facilities, of course; more specific energy industry, to cover risks around renewables, risks include those related to offshore projects (the Global renewable energy capacity grew by 161 from microgeneration to large-scale projects? vast majority of renewable projects are onshore). Gigawatts (GW) in 2016, a record annual increase, Premiums for offshore projects can be up to five according to energy policy network REN21. Around Murray Haynes is a partner and a renewable energy times more expensive than equivalent projects half this new capacity came from solar power, which risk specialist at Alesco, which arranges multi-line or operations on land, in part simply because of means that investments in this form of renewable insurance and reinsurance for businesses during practicalities. If an offshore wind turbine becomes energy were greater than investment in any other the construction and operation of renewable badly damaged, for example, it may be necessary to electricity-producing technology made during 2016. energy projects and facilities. He says the core recover hardware from the seabed, which can be a New renewables capacity installed across the globe insurance products used to insure renewables very expensive undertaking. in 2016 cost US$242 billion, 23% less than was are those you would expect to use to insure any invested in new renewable capacity during 2015; construction project or operational facility. For Renewable insurance needs can vary significantly. the cost of building and operating solar and wind example, during the construction phase there is Consider, for instance, the physical conditions that energy installations has fallen significantly. In the a need for marine cargo cover, various covers for might affect wind turbines in northern Scandinavia, UK, in June 2017, the National Grid announced that damage due to natural causes; and delay in start-up where a build-up of ice on turbines can disrupt a new record for renewables generation meant insurance to cover income-loss caused by delayed operations and/or create additional risks to people that for the first time, a combination of solar, wind, project completion. or property nearby; or the risks facing facilities in biomass and hydropower sources had made a areas prone to extreme weather or earthquakes. greater contribution to electricity generation During the operational phase, there would then be Such natural catastrophe perils “weigh quite heavily (50.7%) than fossil fuels. a requirement for insurance to cover operational on underwriters’ minds,” according to Haynes. risks related to damage to property, in particular; Still, it is important to keep these figures in and business interruption insurance to cover fixed However, insurers have also written policies to context. Renewables contributed 10% of global costs during a major disruption. Other covers that address more specific requirements around scale energy generation in 2016, still far behind the might be more or less relevant depending on the or technology. The range of renewables-related 80% generated using fossil fuels. Although they location of a project could address risks such as products now offered by the broker Lycetts, for contributed almost a quarter (24%) of global terrorism, sabotage and industrial action. example, includes cover for landowners investing 440 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting in anaerobic digestion technology for waste multiples of the same piece of equipment. To now is a good time to be buying these policies. management and fuel production; insurance for counter this, underwriters may insert a series “There’s a lot of capacity in the market at the biomass and geothermal generation; and policies losses clause to limit the number of times they will moment,” Haynes points out. “Underwriters have a tailored for microhydro electricity generation pay out on claims with an identical cause. commercial imperative to be competitive.” schemes, alongside insurance for solar and wind energy generation projects. Haynes does not feel there are any particularly Source: Continuity Insurance and Risk (2017) Renewable Energy Insurance: Renewed efforts (online). Available at: https://www. striking trends in claims related to renewables at cirmagazine.com/cir/renewed-efforts.php [Accessed: 23 January Specialist broker Nviro has also developed policies present – many claims are technology-specific, 2023] covering the lesser-known forms of renewables for others relate to more generic risks, such as projects of varying sizes. Its hydro power insurance accidental damage of assets in transit or during solutions may suit small projects, including construction. He does pick out one trend, however: Energy Efficiency Insurance community generation initiatives and watermill losses related to cabling used for offshore wind renovations. The company also offers insurance facilities. Cable losses are thought to account for Driven by the combination of factors outlined previously, for newer renewable technologies, including tidal about half of all losses related to offshore wind including tighter, ‘green’ building codes and standards, and wave energy; desalination and osmosis energy projects. These problems may include damage to the need to reduce energy costs, and greater awareness generation technologies; kinetic energy generation; cables that occurs during their manufacture, or in of the social, environmental and financial benefits of fuel cells; and carbon capture and storage. transit – or by the installer, such as over-twisting of improving energy efficiency, many commercial property cabling. Cables can also easily be damaged during owners and managers invest in substantial energy XL Catlin, meanwhile, is leading the insurance the process of laying them on the sea bed: laying efficiency projects. These can include including replacing programme for the ITER experimental fusion one cable may dislodge and damage another, for windows and insulation, upgrading heating and cooling project, a scientific venture seeking to demonstrate example. Sometimes the sea bed erodes under systems, installing new lighting and other electrical the technical feasibility of using nuclear fusion cabling, leaving lengths of cable hanging between systems, and installing solar, wind or other sources of to develop a limitless source of energy. The rocks, which can also cause damage. renewable energy. The capital costs of such projects organisation is currently building a magnetic can be high, especially when older buildings require structure to control and confine fusion processes Repairing these cables can be very expensive: the significant retrofitting, but the expectation is that these taking place within plasma heated to 150 million cost of chartering a specialist vessel for several will be recouped over time by substantially lower annual degrees centigrade. weeks can be extremely high. But it may also be running costs. unavoidable, particularly if it is the large export For most renewables-based projects, however, cables which carry energy back to the shore that the reality of insurance is a little more traditional. are damaged. One final group of risks to highlight is that related to ‘series losses’, where design or manufacturing Even those businesses that need to sacrifice more defects, or a widely used installation method, may of the potential returns on renewables investments result in the same claim being made for many on insurance at least have the consolation that 441 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting Energy efficiency insurance can reduce the risk to building performance of and financial savings from their products owners and managers of not achieving the anticipated and services. The Climate Finance Lab has found this approach businesses. Instead of simply selling new savings by (usually) providing cover in three areas: can absorb up to 80% of the underperformance risk technology, a provider needs to sell a promise of and thus incentivise energy efficiency upgrades. A pilot future energy savings that should be high enough Material damage – the risk of damage or destruction scheme has been implemented in Mexico with a target to justify the investment. Businesses are not used of energy-saving equipment installed, such as solar of stimulating $25 million of investment in 190 energy to buying future energy savings, especially in panels efficiency projects in the agro-industry sector. Further developing countries. Many have a lack of trust in Business interruption – the risk of losses in business opportunities are being considered in other developing the technologies, and often do not see the need revenue caused by events associated with the energy- countries; in the long term, it is estimated that ESI and to replace a working piece of equipment that they saving equipment installed; if, for example, a power similar schemes could support up to $100 billion in already have. failure causes production stoppages energy efficient investments. Many development programmes aim to drive the Energy performance – the most important and market for energy efficiency by providing financing, innovative part of energy efficiency insurance, this CASE STUDY: SCALING UP ENERGY EFFICIENCY but this alone is not enough to convince businesses covers any shortfalls in actual versus expected energy WITH ENERGY SAVINGS INSURANCE to invest in promised energy savings. and cost savings The energy savings insurance model aims to scale up The Solution Energy efficiency insurance is considered key in investments in energy efficiency, facilitate the flow of In order to motivate small and medium-sized promoting the uptake of energy efficiency measures, financing for these technology solutions, and address enterprises (SMEs) to invest in energy efficiency and particularly by SMEs in the developing world. Improving the untapped market potential. generate a continuous pipeline of bankable projects, energy efficiency should reduce costs, making businesses more profitable and releasing funds for growth. In many it is fundamental to build trust and credibility The Challenge developing countries, however, funding for energy among key actors and reduce the risk-return trade- Energy efficiency presents enormous investment off perception. efficiency upgrades tends to be limited; SMEs and opportunities for businesses with significant local banks often lack the technical capacity to assess potential to reduce greenhouse gas emissions, With the support of the Inter-American the potential of capital-intensive energy efficiency especially in developing countries. However, many Development Bank and the Danish government, investments, and lack confidence in the data that these development programmes targeting energy BASE developed an energy savings insurance will generate positive returns. efficiency have struggled to catalyse the market. (ESI) model that comprises financial and non- To address this barrier to investment, the Inter-American One of the main reasons is that energy efficiency is financial mechanisms designed to work together Development Bank (IDB), the Danish government not a priority for many businesses, such as hotels or to overcome barriers, create trust and reduce the and BASE (formerly the Basel Agency for Sustainable agribusinesses. perceived risks for stakeholders. Energy) have developed ‘Energy Savings Insurance’ (ESI), The concept of ‘energy efficiency’ can be difficult The model consists of risk mitigation instruments, introduced in the case study opposite. In the ESI model, to sell: it requires providers of technologies like including insurance, standardised contracts and a it is providers of energy efficiency technology, rather air conditioning or boilers to change the way they simplified validation process, which together help than building owners, that purchase the insurance to back guarantees to their SME clients on the energy 442 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting to mobilise financing. BASE has also developed an ESI Toolkit that offers step-by-step instructions on QUICK QUESTION: WHICH ‘GREEN’ INSURANCE PRODUCTS how national development banks can establish AND SERVICES ARE AVAILABLE FROM YOUR PERSONAL OR a programme that is able to catalyse the energy efficiency market. CORPORATE INSURER, OR BROKER? Write your answer here before reading on. The Outcome The ESI model is being planned, developed or rolled out with different partners in various countries across Latin America, Africa, Asia and Europe. The ESI model was recognised by the Global Innovation Lab for Climate Finance as one of the most promising instruments to mobilise private sector investments in energy efficiency. The A.M. BEST insurance rating agency featured it as one of the most innovative insurance products of 2015, and the Clean Energy Finance Forum at the University of Yale identified ESI as a winning idea and a successful financial vehicle for climate change mitigation. The ESI model also features in the G20 Energy Efficiency Investment Toolkit, published in 2017. Source: BASE (2020) Energy Savings Insurance Europe: Unlocking Investments In Energy Efficiency In Europe (online). Available at: https://energy-base.org/projects/energy-savings-insurance- europe/ [Accessed: 23 January 2023] 443 | Principles and Practice of Green and Sustainable Finance Unit 10: Insurance - Impact Underwriting Carbon Credit/Carbon Credit D