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Sovereign natural disaster insurance for developing countries : a paradigm shift in catastrophe risk financing

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  • Ghesquiere, Francis
  • Mahul, Olivier
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    Abstract

    Economic theory suggests that countries should ignore uncertainty for public investment and behave as if indifferent to risk because they can pool risks to a much greater extent than private investors can. This paper discusses the general economic theory in the case of developing countries. The analysis identifies several cases where the government's risk-neutral assumption does not hold, thus making rational the use of ex ante risk financing instruments, including sovereign insurance. The paper discusses the optimal level of sovereign insurance. It argues that, because sovereign insurance is usually more expensive than post-disaster financing, it should mainly cover immediate needs, while long-term expenditures should be financed through post-disaster financing (including ex post borrowing and tax increases). In other words, sovereign insurance should not aim at financing the long-term resource gap, but only the short-term liquidity need.

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    Bibliographic Info

    Paper provided by The World Bank in its series Policy Research Working Paper Series with number 4345.

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    Date of creation: 01 Sep 2007
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    Handle: RePEc:wbk:wbrwps:4345

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    Keywords: Debt Markets; Hazard Risk Management; Banks&Banking Reform; Insurance&Risk Mitigation; Natural Disasters;

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    1. Gurenko, Eugene & Mahul, Olivier, 2003. "Combining insurance, contingent debt, and self-retention in an optimal corporate risk financing strategy," Policy Research Working Paper Series 3167, The World Bank.
    2. Ghesquiere, Francis & Jamin, Luis & Mahul, Olivier, 2006. "Earthquake vulnerability reduction program in Colombia : a probabilistic cost-benefit analysis," Policy Research Working Paper Series 3939, The World Bank.
    3. David Hofman & Patricia Brukoff, 2006. "Insuring Public Finances Against Natural Disasters," IMF Working Papers, International Monetary Fund 06/199, International Monetary Fund.
    4. Ricardo J. Caballero, 2003. "The Future of the IMF," American Economic Review, American Economic Association, American Economic Association, vol. 93(2), pages 31-38, May.
    5. Gurenko, Eugene & Lester, Rodney, 2004. "Rapid onset natural disasters : The role of financing in effective risk management," Policy Research Working Paper Series 3278, The World Bank.
    6. Fisher, Anthony C, 1973. "Environmental Externalities and the Arrow-Lind Public Investment Theorem," American Economic Review, American Economic Association, American Economic Association, vol. 63(4), pages 722-25, September.
    7. Cox, John C & Ingersoll, Jonathan E, Jr & Ross, Stephen A, 1985. "A Theory of the Term Structure of Interest Rates," Econometrica, Econometric Society, Econometric Society, vol. 53(2), pages 385-407, March.
    8. Mahul, Olivier & Gurenko, Eugene, 2006. "The macro financing of natural hazards in developing countries," Policy Research Working Paper Series 4075, The World Bank.
    9. Christian Gollier, 2003. "To Insure or Not to Insure?: An Insurance Puzzle," The Geneva Risk and Insurance Review, Palgrave Macmillan, vol. 28(1), pages 5-24, June.
    10. Tobias N. Rasmussen, 2004. "Macroeconomic Implications of Natural Disasters in the Caribbean," IMF Working Papers, International Monetary Fund 04/224, International Monetary Fund.
    11. Gardner, Roy, 1979. "The Arrow-Lind Theorem in a Continuum Economy," American Economic Review, American Economic Association, American Economic Association, vol. 69(3), pages 420-22, June.
    12. Arrow, Kenneth J & Lind, Robert C, 1970. "Uncertainty and the Evaluation of Public Investment Decisions," American Economic Review, American Economic Association, American Economic Association, vol. 60(3), pages 364-78, June.
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    Cited by:
    1. Guillermo Perry, 2013. "Regional Public Goods in Finance, Trade and Infrastructure," DOCUMENTOS CEDE, UNIVERSIDAD DE LOS ANDES-CEDE 011888, UNIVERSIDAD DE LOS ANDES-CEDE.

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