How insurers can be incentivised to act sustainably

How insurers can be incentivised to act sustainably | Insurance Business

How insurers can be incentivised to act sustainably

The impact of climate change has been placed firmly at the forefront of insurers’ minds in New Zealand, and is increasingly affecting product offerings, risk assessment and pricing.

Worldwide, there have been a number of government and corporate-level initiatives to address the ever increasing issue over recent years. According to MinterEllison Special Counsel Sarah Barker, the insurance industry is perfectly positioned to get involved in things such as green bonds and positive incentive facilities, which offer adjustments to interest rates based on sustainability targets.

“In the last couple of decades, the insurance industry has tended to focus on the physical risks and consequences, for obvious reasons,” Barker said. “But economic transition risks are increasingly driving action in the sector, and these are not risks that are going to manifest in the next few decades – they are manifesting right now.”

“Economic transition risks are not the physical or ecological effects of climate change,” she explained. “They are the responses of markets to the threats associated with it – policy and regulatory responses such as the Paris Agreement, technological shifts, and shifts in social preferences and stakeholder expectations.”

Barker says that regulators and platforms like the Sustainable Insurance Forum in Australia have recognised that climate change presents ‘material financial risks’. Institutional investors have also recognised that it presents a risk to their portfolio, and financial ratings agencies have made moves to update their risk algorithms to account for them.

“There are significant opportunities here, particularly for the insurance industry,” Barker stated. “We’re seeing things like positive incentive facilities, which are loans with an annual interest rate adjustment that’s linked to risk premiums, along with a sustainability risk premium. They’re adjusted up if you miss your targets, or down if you hit them – usually by two or three basis points.”

European insurer Generali has roughly €4 billion worth of positive incentive facilities, and, according to Barker, these facilities have evolved since they were first introduced. Discounts are now linked more directly to drivers that are very particular to businesses, making it easier to hit targets.

“The focus now is on forward-looking stress testing and scenario analysis,” she concluded. “Insurers need to think about what climate change means for all of its operations – its policies, disclosure requirements, pricing, investments and exclusions.”