Australian natural perils cost $13.5bn

Australian natural perils cost $13.5bn

By April 4, 2019Climate Risk, News

 

In this edition we look at the current average annual cost of natural peril events in Australia.  This is an important figure for financial institutions and government to understand as they budget for future event costs, and evaluate potential mitigation and resilience investment.


A quick caveat before we start. The estimation of the average level of natural peril claims is difficult due to:

  • gaps in the data (and especially data on intangible costs)
  • the short period for which the data is available, and
  • the impacts of natural variability and climate change which make the data difficult to interpret.

Whilst we have provided our best estimate based on the data that is available, there is no guarantee that our estimate will be correct.


What does google tell us?

A quick scan using google suggests a range of estimates for the average annual cost of natural perils in Australia:

 

 

 

 

 

This wide range of estimates means that it can be difficult for decision makers to evaluate the extent of risk they are exposed to. Part of the reason for this is the different definitions used.

For example:

  • insured costs versus total economic costs
  • large disasters only or costs from all sizes of natural peril event
  • whether infrastructure costs and other economic costs are included
  • whether intangible costs are included

In this note we have included all types of cost.

Disasters only, or all natural peril claims

We have included all natural peril claims costs, not just those arising from major disasters. Our reason for doing so is that, to some extent at least, the natural disaster claims are no different from the smaller events – it’s just that they occur in areas of higher exposure. For example, the most costly insured event in Australia’s history is the 1999 Sydney hail. But if those same weather conditions had impacted an area of low housing density then the event may not have even featured on the disaster list, never mind been the costliest event.

Finity's cost estimate

We estimate the average annual cost of natural peril claims in Australia is currently $13.5bn, broken down by component as follows:

We are reasonably confident that the Insured Tangible Costs are of the right order of magnitude.The Other Tangible Costs are less certain, but broadly in line with a number of benchmarks available. The Intangible Cost estimate reflects a greater level of speculation.

Our figures make only a limited allowance for climate change. Given the variable nature of extreme events, the effect has been difficult to detect in the insurance claims data. However attribution studies and anecdotal evidence from individual events indicate how climate change is already affecting the level of risk from disasters. To the extent that the underlying costs are materially higher than indicated by the historical data, our estimate is likely to be too low.

The figure of $13.5 billion is at the high end of costs estimated elsewhere. It is important to not just focus on the insured costs, as the overall costs are much larger. This is particularly important when evaluating the economic benefits of mitigation and resilience measures.

Given the significance of the costs, it makes sense to be spending significantly on mitigation i.e. in the $billions.

Breakdown of our estimate

Insured Tangible Costs

Chart 1 shows the insured natural disasters by year since 1966 (normalised to 2018 levels). The chart is based on an analysis by Risk Frontiers of data collected from insurers by the Insurance Council of Australia (ICA). We have made additional allowance for inflation relative to the Risk Frontiers’ analysis based on our view of claims cost inflation.

Source: Derived from Risk Frontiers’ 2018 analysis of data from the ICA

The average annual insured costs of the disasters are $2.3bn.

As an aside, it is interesting to note that Chart 1 does not indicate any clear trend in catastrophe claims costs over time.  However this is very likely due to the fact that catastrophe costs are by their very nature infrequent and variable in size, are simply too variable to provide a reliable measure of how claims costs may be changing – in effect, any view of trend is swamped by the variability. Hence we suggest great care be applied in using this data to form a view of how climate change may be affecting insurance claims costs.

The ICA data reflects the cost of the larger disasters.  However, there are also significant levels of weather related claims costs relating to smaller events.

We have used Finity’s address based natural peril risk models (finperils) to estimate the costs from smaller events, resulting in an average annual cost for disasters and smaller events combined of $5.0bn – i.e. an extra $2.7bn relating to the smaller events (Note: this figure also makes some allowance for costs from Lloyds and unlicensed insurers that are not included in the ICA data).

Other Tangible Costs

Other Tangible Costs include uninsured:

  • damage to property
  • damage to infrastructure
  • direct economic impacts that were not insured

The data on Other Tangible Costs is patchy and tends to come from case studies of specific events, where an assessment is made of the various types of cost. The case studies tend to be focussed on the larger events. Based on looking at the data for a range of events we assume a multiplier of 1.0 for large events and 0.7 for smaller events, giving around 0.8 overall. Hence we estimate Other Tangible Costs of $4.0bn.

Intangible Costs

The Intangible Costs include direct deaths and injuries from the event plus impacts to mental health, family violence and alcohol abuse.

The Australian Business Roundtable report includes useful case studies showing the levels of intangible costs relative to tangible costs. These case studies are for major disasters (the Black Saturday Bushfires and the Brisbane Floods). In our view these events would be at the more severe level in terms of the intangible costs that might arise – for example, the impacts to mental health following a bushfire would generally be more severe than following a hail event. Hence we have used a lower multiplier of 0.5 times the Tangible Costs (compared to 1.0 times used in the Australian Business Roundtable Report).

Hence the Intangible Costs are estimated to be $4.5bn.

Read our previous blog post: ACCC Northern Australia insurance inquiry - interim report