The impact of climate change on catastrophe risk models : implications for catastrophe risk markets in developing countries

Catastrophe risk models allow insurers, reinsurers and governments to assess the risk of loss from catastrophic events, such as hurricanes. These models rely on computer technology and the latest earth and meteorological science information to generate thousands if not millions of simulated events. Recently observed hurricane activity, particularly in the 2004 and 2005 hurricane seasons, in conjunction with recently published scientific literature has led risk modelers to revisit their hurricane models and develop climate conditioned hurricane models. This paper discusses these climate conditioned hurricane models and compares their risk estimates to those of base normal hurricane models. This comparison shows that the recent 50 year period of climate change has potentially increased North Atlantic hurricane frequency by 30 percent. However, such an increase in hurricane frequency would result in an increase in risk to human property that is equivalent to less than 10 years’ worth of US coastal property growth. Increases in potential extreme losses require the reinsurance industry to secure additional risk capital for these peak risks, resulting in the short term in lower risk capacity for developing countries. However, reinsurers and investors in catastrophe securities may still have a long-term interest in providing catastrophe coverage in middle and low-income countries as this allows reinsurers and investors to better diversify their catastrophe risk portfolios.