Ensuring That Our Economies Remain Terror-Proof

Who should pay for the next major terrorist attack? In a world under budgetary pressure, where huge sums of private and public fiscal resources have been mobilized to cope with the financial crisis and a series of unprecedented natural and man-made disasters, governments and enterprises are not eager to assume more risks. Yet, when economic stability is at stake, is the lack of government involvement in terrorism risk coverage in many countries the most sound option today?

In an attempt to address these questions, the heads of all the 11 national terrorism insurance programs established in OECD member countries gathered earlier this month at the OECD headquarters in Paris. The meeting was organized under the auspices of the OECD Secretary-General High Level Advisory Board on Financial Management of Catastrophes, in association with the Australian Reinsurance Pool Corporation. Also attending were the heads of two national programs, yet outside of the OECD, Israel and Russia, and some hundred governmental experts, top decision makers from the (re)insurance market, and representatives of leading research institutions.

Such an unprecedented gathering of key players in terrorism insurance markets demonstrates that in light of the increasing number of catastrophic disasters we have recently witnessed on other fronts, it is critical to be proactive, rather than waiting for the next untoward event to occur.

In fact there is an important psychological bias that those who study disasters know well: if there are no successful terrorist attacks for several consecutive years, it is easy to think the threat is now over. That gives citizens, businesses and government officials a false sense of security, as if this threat had been 100% eliminated. This is unfortunately not the case.

Indeed, while rarely disclosed to the public, there have been many terrorist attempts over the last few years that have been averted by intelligence and security services. That was vividly reminded to us by Jean-Louis Bruguière -- for many years the leading investigating magistrate in France in charge of counter-terrorism affairs, who now oversees from the U.S. Treasury the international Terrorist Finance Tracking Program.

From an economic perspective, the 9/11 attacks remain the second most costly disaster in the history of insurance ($40 billion, in 2010 prices, second only to Hurricane Katrina). When they occurred, these attacks immediately called into question the responsibility and capacity of both the insurance industry and governments around the world to provide adequate financial coverage against this risk.

Where do we stand today? OECD countries have designed a variety of different answers. Some countries have left it to individual private insurance firms to assume the risk, some have established private pools. Others -- 9 out of the 31 OECD countries -- have set up public-private partnerships, most often with a layered structure approach in which various stakeholders can intervene under pre-determined thresholds and where the government acts as the insurer of last resort.

This is the case in Australia, Belgium, Denmark, France, Germany, Netherlands, Spain, the U.S and the U.K. Notably, Belgium and Denmark have established such a public-private mechanism only very recently. This suggests that many years after 9/11 the role of governments remains critical, not only in trying to prevent future attacks, but also in providing a necessary backstop to stabilize terrorism insurance markets. The need for a balanced public-private approach was already highlighted in a widely disseminated OECD report published in July 2005... the day before the London subway bombing.

Regrettably, however, five years later, still very little regulatory and market information (e.g., coverage type, price, insurance penetration, characteristics of the firms that buy terrorism insurance and those that don't) is available to compare those national schemes and identify and share best practices.

In a move designed to overcome this limitation, the heads of terrorism insurance programs decided at our meeting this month to establish -- under the aegis of the OECD High Level Advisory Board -- a permanent international platform on the financial coverage of terrorism risk. This platform will monitor the evolution of national terrorism insurance programs, the degree of government involvement, provide more detailed analyses of private (re-)insurance market trends and allow closer collaboration on economic responses to terrorism.

This new OECD platform will foster the development of best practices on financial prevention, mitigation and compensation of terrorism risk to ensure fast economic recovery after another attack, benefiting not only the countries that currently operate national terrorism insurance programs, but also informing countries where national terrorism insurance programs have not been established -- 20-some OECD countries, plus virtually almost all many those outside the organization.

While proper insurance coverage will not prevent the next large-scale terrorist attack, it will provide the necessary financial safety net for people and corporations to get back to their feet as quickly as possible right after it, providing some economic stability in an already turbulent world.

Erwann Michel-Kerjan is managing director of the Wharton School Risk Center. Since 2008 he serves as Chairman of the OECD Secretary-General Advisory Board on Financial Management of Catastrophes. He published, most recently, At War with the Weather (with Howard Kunreuther; MIT Press, 2009), and The Irrational Economist: Making Decisions in a Dangerous World (with Paul Slovic; Public Affairs, 2010).