The lightbulb moment propelling James Shaw into politics occurred more than 10 years ago when he was working as a consultant for PwC in London.
The trigger was a report, commissioned by the insurance sector, on the long-term effects of climate change.
“It did some projections based on the available data and… concluded that the cumulative impact of extreme weather events and flooding… would cause such catastrophic damage to property and loss of lives over the upcoming decades that it would bankrupt the entire insurance industry by the year 2050,” Shaw told a conference shortly after taking over as Green Co-Leader.
“My first thought was, ‘Why isn’t anyone doing anything about this?’ My second thought was, ‘Why aren’t I doing anything about this? I’m an environmentalist!’”
Clearly Shaw’s concern was not with the industry’s future but with that of the planet.
We will assume for the purposes of this article that both will survive but that the survival of the industry will not be automatic and will require adaptation on both sides of the table.
Higher premiums will be part of the mix and there is also a real likelihood of insurance retreat as “risks” become certainties, because insurers do not insure against certain loss.
Other possible responses in the short term include:
- a sharp acceleration in the trend towards risk based insurance pricing for property insurance, with large premium increases for the owners of high-risk assets;
- new insurance products that respond to an environmental parametric relevant to the performance of the business, and alternative instruments, including weather derivatives; and
- an acceptance by mainstream insurers that their gatekeeper role implies a responsibility to promote the transition to a low carbon economy, especially given the increasing adoption of ESG (Environmental, Social, Governance) sustainability reporting.
Gatekeeper role
When Shaw had his Damascus experience, climate change had yet to enter the mainstream consciousness.
Now it is very much front of mind, manifesting in public pressure on companies and industries to take a broader perspective than short-term economic growth.
Because insurance cover is a prerequisite to financing, and finance is a prerequisite to development, both industries have gatekeeper roles that can put them at the pointy end of change.
Increasingly, they are using this leverage to promote ESG principles. One example is ESG loans, where the financier requires the potential borrower to obtain an ESG rating from a prescribed ESG report provider, which must be renewed each year. Depending on the direction of travel, the cost of the loan will either be adjusted up (an ESG surcharge) or adjusted down (an ESG discount).
The NZX has been actively promoting ESG reporting since 2016, and now requires it from listed issuers under the NZX Code.
The intention is to galvanise companies to take a more responsible attitude toward the environment and the society in which they operate. By implication, this includes achieving New Zealand’s emissions reduction targets.
Legal risks for business
The head of insurance at the Australian Prudential Regulatory Authority (APRA) recently warned corporate Australia the long-term risks posed by climate change “are material, foreseeable and actionable now”.
Businesses failing to respond can put shareholder value at risk. This can arise in various ways: by failing to anticipate and mitigate climate change effects, by making poor decisions that allow assets to become stranded or result in insurance becoming unaffordable, or by failing to secure needed insurance, including on ESG grounds, as discussed above.
The risk for listed companies, in particular, of legal challenge will increase only:
- as the information relating to climate change becomes more accurate and more precise. The Climate Change Response (Zero Carbon) Amendment Bill will promote this process because it will require the Climate Change Commission to produce a National Climate Change Risk Assessment every six years, and will require the government to respond with a National Adaptation Plan
- with the continued growth of litigation funders; and
- as the case law develops, including successful claims in comparable jurisdictions – eg, the UK and Australia.
Primary directors and officers’ (D&O) premiums for the ASX200 rose by a median 89% in the first half of last year and 122% in the second half, according to Insurance News Australia.
The rise was driven by increased legal exposure from the increasing incidence of class actions in Australia but climate change was also identified as a factor. We do not have the equivalent D&O data for New Zealand but have been told by an insurance industry source that the liability market here is “as hard as it has ever been”.
Future trends
Practical business responses we anticipate, or would recommend, are:
- a greater focus on bespoke products and more shopping around to ensure the best insurance coverage possible – less of a ‘set and forget’ approach;
- more tailored policies reflecting the specific risk profile of the insured rather than the generic features of the insured’s industry or sector;
- a higher level of engagement by the insured, involving senior managers and the board; and
- more detailed questioning by the insurer of the insured as insurance comes up for renewal.
Some of this capability will be facilitated and reinforced by technologies supporting more sophisticated and granular data collection, collation and analysis.
The New Zealand regulatory environment is favourable to the introduction of new insurance products. Overseas markets have already seen the development of parametric insurances, for example, which could have a role here, particularly in the context of New Zealand’s agricultural economy.
These are intended to complement traditional insurance and are based on a parameter that is critical to the client’s business.
In the climate context this could be rainfall levels or wind speed. The payment amount is fixed in advance and the contract is paid out immediately the threshold condition is met or exceeded, regardless of whether a loss has occurred.
The advantage to businesses of these arrangements is that the immediate pay-out can be used to initiate mitigation strategies, and to keep the business afloat and wages paid while these strategies are engaged.
Read the full article on the Interest.co.nz website here.