Trans-Tasman lessons: A sustainable response to managing weather and earthquake risk

Address by Mike Wilkins, Managing Director and CEO, IAG, to Trans Tasman Business Circle: Sustainability Series Wednesday, 14 September 2011

INTRODUCTION

The past year won’t be forgotten quickly. We’ve seen an unprecedented series of floods, cyclones and storms in Australia and the worst disaster on record in New Zealand – with a rebuild cost currently estimated at over NZ$15 billion. 

These events have been accompanied by devastating loss of property and life. 

The experiences of Australia and New Zealand, while very different, have highlighted a lot about how prepared our respective communities are for such events. 

From a sustainability perspective, it’s important we learn from events like these and use the learnings to reduce risk and make our communities safer. 

As the largest insurer in Australia and New Zealand, IAG has been at the coal-face of the rebuild and recovery process on both sides of the Tasman:

• Our businesses have received over 150,000 claims related to all the natural perils in both countries since the first earthquake quake last September. The gross cost of all these claims is billions of dollars. 
• In the recently concluded financial year, the net cost of natural perils to us (post reinsurance) was $610 million – that’s $175 million more than we had budgeted for. 
• Including the associated $83 million increase in our reinsurance expense, these costs took almost $700 million off our insurance margin.

We therefore have the imperative to address them on behalf of our shareholders and our customers. 

Today, I want to focus on: 

• the lessons we can learn from the respective responses to these issues on both sides of the Tasman; and 
• how we can ensure we are better prepared and more resilient in future. 

AUSTRALIA: A SUSTAINABLE RESPONSE

Starting closer to home, a sustainable response to the fires, storms and floods of the past couple of years is of national, economic significance to Australia. 

Review of disaster mitigation spend

Government budgets for mitigation works over the last four years has averaged just over $27 million annually, while we’ve spent around $6 billion on payouts for recovery and rebuilding. In other words, we’ve spent 220 times more on the cure than prevention. 

This is the equivalent of sitting by and doing nothing to educate smokers on the risk of smoking and then simply accepting the huge health bill down the track. Clearly, it’s an unsustainable allocation of resources. 

The good news is that the government agrees and has indicated a willingness to review this situation.

Insurance industry response

On the private sector side, this year insurers have paid out around $2.55 billion following the floods in Queensland and nearly half a billion following the events around Victoria. Annually they inject around $20 billion in claims payments following claim events – this equates to around $80 million per business day. 

However, the floods in Queensland and Victoria have posed some significant challenges for the insurance industry and its customers. While the significant majority of claims are being paid, (in IAG’s case, over 90 per cent of all these claims will be paid), the floods saw a lot of people in high risk areas without appropriate cover.

One of the reasons for this is the inability of most insurers to offer a flood product in those states, as adequate flood mapping data has not been made available by local governments and planning authorities. 

Insurers cannot responsibly underwrite a risk without understanding the extent of that risk. 

No one in our industry likes the situation that arose following the floods. Our function is to help people manage risk and to pay claims to assist in the recovery from unexpected loss. It’s in our interests too that our customers have the appropriate level of cover for their risks. 

However, it wouldn’t be a sustainable approach for us to pay claims that are not covered in our policies. We have not been charging a premium for them and we don’t have reinsurance to cover them. 

IAG’s role

• IAG accepts that some of the criticism the industry has received has been valid. We acknowledge our shared role in addressing the issues that have arisen. That is why we’ve sought to play an active part in identifying the solution. 
• First, we need to get clearer on policies and what is covered – and the industry should have tried again when the ACCC rejected its original proposal for a standard flood definition back in 2008.
•  We strongly support the government’s moves to provide a standard definition for flood and clear and unambiguous fact-sheets, so customers can be comfortable they are covered. 
• We also accept that insurers, along with government, can be more vocal in educating people about their risks.
• Third, we are willing to offer flood products where we do have reliable data – as demonstrated by our flood products in other states, including NSW. Since the floods, IAG has been working very closely with numerous local governments to encourage the release of their data, and I’m pleased to report that we’ve made good progress in this regard.

I note Lockyer Valley Regional Council announced a fortnight ago that it was working on flood mapping, particularly important given the high proportion of flood-prone properties in that area. Brisbane City Council also provided improved data one month before the January floods. Unfortunately this wasn’t long enough to use the data to create products. 

In Victoria the insurance industry continues to work with local councils to assist in additional flood products in this state, but it is slow progress. 

Subject to further positive progress in the provision of data, IAG has announced that we will extend our flood cover during 2012. This would mean flood cover provided by our CGU brand and RACV Insurance – our joint venture with the RACV, as well as NRMA Insurance in Queensland. 

• Finally, for the very small proportion of the community who live in the areas of extreme risk – we have proposed that a private flood insurance solution is still available. For those in the areas where the cost of the risk is too high, the government could consider a subsidy; however this subsidy should be funded in such a way that encourages the relevant local government to mitigate and reduce the exposure over time. 

Community response

Importantly, there also needs to be a community response to help keep our exposure to risk – and the cost of risk premiums – at an affordable level. 

This will involve increasing information and emphasising a national focus on adaptation: strengthening building standards to reflect prevailing risks – be it bushfire, flood, cyclone or earthquake. 

Greater accountability must be required from local councils – so that no additional development is allowed in areas that are clearly on flood plains or subject to extreme bushfire risk. 

In certain cases we should also look at land buy-back. This approach is already happening in areas like Grantham where around 70 families are moving to new land under a $40 million local government scheme. A similar approach is underway in Christchurch, where the Government is offering money for land deemed to be of extreme risk after the recent quakes. 

The crux of many of these problems has been inappropriate development being allowed in high risk areas. Where these poor planning decisions can’t be reversed, all levels of government need to invest in mitigation infrastructure. The return on investment can be rapid. For example, the far north NSW town of Lismore spent $19 million on a levee in 2005. Shortly after this, the town experienced a one-in-ten year flood and an estimated $15 million in recovery costs was saved. These savings will multiply in future years when the area inevitably floods again. 

National Disaster Insurance Review

The response of government to these natural disasters in Australia has been to commission a number of inquiries, which are running simultaneously. The Natural Disaster Insurance Review (NDIR) is considering many of these issues and reports to the government at the end of this month. 

One of the common themes in the industry’s response to the NDIR is the need for a coordinated approach across all levels of government. 

In our view, this doesn’t have to involve any new bureaucracy, the ability to co-ordinate efforts already lies with COAG, which can empower the Attorney-General (who is responsible for natural disaster planning and recovery) to coordinate the approach on: 

• Planning;
• Building codes;
• Infrastructure investment;
• Community education;
• The collection and publication of mapping; and
• Keeping a database of high risk properties.

Efficient coordination of existing structures would minimise overlap between levels of government, cost duplication and confusion of jurisdiction that plagues our current approach. The insurance industry can and wants to support the government in developing a coordinated approach. 

In our submission to the NDIR, IAG said it believed the private market will provide the most effective solution for flood. Over half of all home and contents policies sold include flood cover and that figure will soon be over 80 per cent. I’ve already mentioned that we are expanding our offering next year.

Some proposals support the establishment of a ‘flood pool’. In principle, we believe that pools are economically inefficient and increase the likelihood of cross-subsidisation – that is, those with little or no risk of flood subsidising the costs of those with high risks. This has the potential to increase the cost of living for everyone and potentially acts as a disincentive to insure – compounding the underinsurance problem and reliance on taxpayer bailouts after disaster. 

In addition, pools risk dampening the price signal that indicates high risk – reducing the incentive to avoid that risk and potentially leading to further development in dangerous areas. 

NEW ZEALAND: A SUSTAINABLE RESPONSE

Looking across the Tasman now, the New Zealand earthquakes have been a different experience, but have presented their own series of challenges. 

A cumulative 400,000 claims have been received by New Zealand’s national disaster fund, the Earthquake Commission (EQC), which covers up to the first $100,000 of damage to the homes of those who take out private insurance.

The rebuild has been complicated by the approximately 8,000 aftershocks and instability of the underlying land caused by liquefaction and lateral spreading. The government is working on the assumption that the Christchurch rebuild process could take around seven years. 

It will be interesting to review what is learned from this rebuild process, as much of the activity is being channelled through the centralised bodies of the EQC and the Canterbury Earthquake Rebuild Authority. 

IAG has a substantial presence in New Zealand, and businesses that boast a history of 150 years. We are responding to the unique challenges and uncertainties of this situation in a number of ways.

• We’ve established dedicated earthquake operational teams in all our claims sites across the country, separating them from business as usual claims. Each claimant has their own case manager, given the long and unusually complex process.
• To keep the costs of repair (and the impact on future premiums) down, we’ve partnered with a construction company and built a team of 80 project managers, quantity surveyors, planners and others to streamline the repair process. 
• Finally, we are working to separate and recycle building materials like concrete, brick, metal and timber. Around 78% of building material has been salvaged in this way and crushed (in the case of concrete), treated, re-sold as scrap or re-used.

One thing the New Zealand government is doing well is leveraging the expertise of the business community in the rebuild. The CEO of our NZ business, Jacki Johnson chairs the insurance sub-committee at Business New Zealand, ensuring that industry hears issues, has input and can influence decisions early. 

New Zealand is also leading the way through excellent availability and transparency of earthquake risk information and research ability through its government-owned research company, GNS Science. 

IAG has established a close working relationship with the scientists of GNS and surveyors, such as Tonkin & Taylor, who are involved in helping to understand the nature of the Canterbury earthquakes. This relationship involves extensive information sharing and cooperation. 

We have helped the scientists understand insurance issues, (such as the nature and extent of damage on properties caused by soil liquefaction), and the scientists have in turn been open with sharing their developing knowledge of different type of soil’s susceptibility to future shocks. 

The result has been the mapping of areas of Canterbury according to this land risk, something that has helped the Government to identify areas which are uneconomic in terms of providing essential infrastructure. 

This science-based approach has helped with the public acceptance of tough decisions involving the relocation of thousands of families in Christchurch.

CONCLUSION

To conclude, there are three very simple lessons about sustainable risk management that arise from the Trans-Tasman disasters of recent months.

• To manage the risks to our communities we must first understand them. This means being absolutely transparent about what the risks are. Allowing insurers access to data and allowing residents to see their personal risk – so they can take appropriate action.
• Second: Once we understand the risks, we must take action to minimise them, through stronger buildings, better infrastructure or simply by moving further away from them. Reducing our exposure to risk means we are keeping its cost manageable and we can use funds more efficiently for prevention, rather than cure. 
• Third: we must ensure the community is fully aware of any residual risks and that individuals have options to manage them through a robust private insurance market.

The private insurance markets of Australia and New Zealand have served our countries well over more than a century, injecting enormous amounts of funds to where they are needed most. As the risks facing our communities continue to evolve and change, we look forward to sharing our knowledge to help make our communities safer. 

Safer communities will in turn make us a stronger and more sustainable Group in a more sustainable country.