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The macro financing of natural hazards in developing countries

  • Mahul, Olivier
  • Gurenko, Eugene

The authors propose a financial model to address the design of efficient risk financing strategies against natural disasters at the country level. It is simple enough to shed analytical light on some of the key issues but flexible and realistic enough to provide some quantitative guidance on the ex ante financing of catastrophic losses. The risk financing problem is decomposed into two steps. First, the resource gap, defined as the difference between losses and available ex-post resources (such as post-disaster aid), is identified. It determines the losses to be financed by ex ante financial instruments (reserves, catastrophe insurance, and contingent debt). Second, the cost-minimizing financial arrangements are derived from the marginal costs of the financial instruments. The model is solved through a series of graphical analyses that make this complex financial problem easier to apprehend. This model captures and explains the main impacts of financial parameters (such as insurance premium, cost of capital) on efficient risk financing structures.

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Paper provided by The World Bank in its series Policy Research Working Paper Series with number 4075.

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Date of creation: 01 Dec 2006
Date of revision:
Handle: RePEc:wbk:wbrwps:4075
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  1. Michael Keen & Paul K. Freeman & Muthukumara Mani, 2003. "Dealing with Increased Risk of Natural Disasters: Challenges and Options," IMF Working Papers 03/197, International Monetary Fund.
  2. 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.
  3. Coate, Stephen, 1995. "Altruism, the Samaritan's Dilemma, and Government Transfer Policy," American Economic Review, American Economic Association, vol. 85(1), pages 46-57, March.
  4. David Hofman & Patricia Brukoff, 2006. "Insuring Public Finances Against Natural Disasters: A Survey of Options and Recent Initiatives," IMF Working Papers 06/199, International Monetary Fund.
  5. Priest, George L, 1996. "The Government, the Market, and the Problem of Catastrophic Loss," Journal of Risk and Uncertainty, Springer, vol. 12(2-3), pages 219-37, May.
  6. Arrow, Kenneth J & Lind, Robert C, 1970. "Uncertainty and the Evaluation of Public Investment Decisions," American Economic Review, American Economic Association, vol. 60(3), pages 364-78, June.
  7. 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.
  8. Kunreuther, Howard, 1996. "Mitigating Disaster Losses through Insurance," Journal of Risk and Uncertainty, Springer, vol. 12(2-3), pages 171-87, May.
  9. Ricardo J. Caballero, 2003. "The Future of the IMF," American Economic Review, American Economic Association, vol. 93(2), pages 31-38, May.
  10. Louis Kaplow, 1989. "Incentives and Government Relief for Risk," NBER Working Papers 3007, National Bureau of Economic Research, Inc.
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