A paper by the European Insurance and Occupational Pensions Authority (EIOPA) and the European Stability Mechanism (ESM) proposes risk-sharing mechanisms at the European level, including natural catastrophe insurance pools and loan-based support, aimed at enhancing overall risk tolerance and closing Europe’s huge protection gap.
The increasing frequency and severity of natural disasters poses significant economic and social challenges across Europe. As risks continue to increase, insurance coverage remains inadequate, exposing individuals, businesses and governments to financial losses.
The ESM and EIOPA discussion paper states that major insurers, reinsurers, market-based solutions and available national schemes should continue to play a key role in spreading natural disaster risks. However, their capacity may not be sufficient to absorb losses from large-scale disasters, which are increasingly likely in a warming climate.
The ESM and EIOPA outline how risk-sharing mechanisms at European level can bring significant diversification benefits and enable more cost-effective financing, thereby attracting the private sector.
The proposed mechanism consists of a risk-based, premium-financed, Europe-wide natural disaster insurance pool aimed at diversifying risks and hazards across countries. This will allow insurers to use capital more efficiently, expand coverage, and make premiums more affordable for households and businesses. The pool will benefit participating insurers and member states as it can diversify largely uncorrelated risks, thereby reducing loss volatility.
The risk-sharing mechanism will also include loan-based support for extreme tail events that exceed the capacity of the pool. It is designed to be fiscally neutral, allowing the insurance industry to absorb costs over time without relying on taxpayer dollars. It would provide predictable and affordable funding, reduce reliance on temporary public support, and stabilize reinsurance costs without distorting private markets or weakening fiscal discipline.
ESM and EIOPA said: “These elements, together with the other layers of the ladder approach, will form a more resilient catastrophe risk management framework, combining strong private markets, diversified European capital pools and strong financial support, providing much-needed stability in the event of unexpected large events. This enhanced framework will enhance Europe’s ability to absorb shocks and support a sustainable approach to disaster financing.”