Insurance ought to change tack on sustainability goal
The insurance industry continues to bear the brunt of climate change and other sustainability-related risks. According to Aon’s 2021 Weather, Climate and Catastrophe Insight, it is estimated that the global losses associated with climate aggravated catastrophes reached $130 billion in 2021 and have been growing over the last couple of years. Liability claims are also on the increase arising from proceedings for failures in mitigation and adaptation, greenwashing, disclosure, negligence and human rights issues.
On the other hand, the industry stands to gain from opportunities presented by sustainability and climate risks by developing products that enable customers adapt to and mitigate these risks. The industry also stands to be one the biggest beneficiaries in a sustainable world. A prosperous society free of disease, hunger and other social ills means more disposable incomes, leading to increased uptake of insurance products and lower claim losses.
The industry should therefore have all the motivation of being at the forefront in mitigation of and adaptation to climate and sustainability risks. Unfortunately, for a long time the insurer has more often than not come to pick up losses after the loss event has crystallised. Not much progress has been made in mitigation of and adaptation of risks. Insures would ordinarily re-price risks upon renewal to cover increased losses. This approach may not work for climate risks as their effects can be systemic, likely cause market failures that can threaten business models and make insuring some risks uneconomical for insurers and unaffordable for customers.
While considerable progress has been made globally since the launch of the UNEP-FI Principles of Sustainable Insurance in 2012, not much progress has been made amongst local insurers with only a handful talking about sustainability let alone integrating into strategy and operations. The counterparts in banking industry embraced sustainable finance practices in 2015 when they launched the Sustainable Finance Initiative and have made considerable strides, most recent being the launch of the Guidance on Climate Related Risk Management by the Central Bank of Kenya in 2021.
What can the insurance industry do to drive sustainability and mitigate the effects climate change? One might be tempted to argue that the industry’s contribution to climate change is negligible when compared to entities in manufacturing and the fossil fuel intensive sectors. While this may be true to the extent of the industry’s immediate boundaries, looking at the wider boundary, the industry can contribute to mitigating climate and sustainability risks by driving behaviour change amongst its customers and stakeholders.
This can be achieved by including environmental, socials and governance (ESG) criteria in product development, underwriting and claims process. It could mean pricing products in a way that encourages positive behaviour towards the environment and the society. A good example would be discounting premiums for work injury benefit insurance for organisations that have implemented health and safety safeguards at the workplace, or charging lower premiums for insuring electric vehicles than for petrol and diesel powered vehicles.
The industry can also drive sustainability by developing innovative products that help in adaptation and mitigation of climate risks, as well as products that promote economic, environmental and social sustainability. One sector that is in dire need of support from the industry is agriculture that has year on year suffered losses from climate change effects on weather patterns. Unfortunately, the insurance industry has not fully embraced agriculture insurance due to its perceived unprofitability. There are however cases of success stories by some agricultural insurers, which point to possibility of success on a wider scale and with better collaboration among industry players, the government and other stakeholders.
How can the industry make progress on this front? The UNEP-FI Principles for Sustainable Insurance (PSI) offer a good starting point for insurance companies keen to integrate ESG into their strategy and operations. Launched in 2012, the principles provide a roadmap for imbedding in decision-making, environmental, social and governance issues relevant to the insurance business and to encourage collaboration with clients and business partners to raise awareness on environmental, social and governance issues, manage risks and develop solutions. They also seek to encourage collaboration with governments, regulators and other key stakeholders in promoting widespread action across society on environmental, social and governance issues.
Insurance regulators across the globe are increasingly focusing on sustainability and climate risks and are integrating these risks into macro and micro prudential guidelines. The Insurance Regulatory Authority has also started engagements with the industry on this front. It is expected that IRA will soon adopt this route and therefore the industry should brace for this imminent but exciting change.