Insuring catastrophes and the role of governments
- 1HEC Montréal, Université de Montréal, 3000 chemin de la Côte-Ste-Catherine, Montréal, Québec, QC H3T 2A7, Canada
- 2Florida Catastrophic Storm Risk Management Center, College of Business, Florida State University, Tallahassee, Florida, FL 32306-1110, USA
Abstract. In this paper we model the cost of providing insurance coverage against natural and man-made hazards. We propose an insurance market model that explains (1) the use of reinsurance to help finance the cost of catastrophic events and (2) the implicit (or explicit) presence of government entities acting as (re)insurers of last resort. Using an economic model, we show how insurance programmes should be designed to cover the losses due to a possible catastrophic natural hazard. Our results show that the optimal structure of a reinsurance programme minimizes the cost of offering insurance protection. We also show how government intervention can reduce the cost of insurance against natural catastrophes and increase policyholders' welfare. Our paper therefore offers public policy implications as to the role and presence of government as an insurer of last resort and the minimum insurance premium necessary to cover the cost of catastrophic events.