A Travelers executive speaking at a rating agency conferenceearlier this month said his company's proposal to deal withinsurance issues arising after natural catastrophes now embracesthe concept of a federal reinsurance program.

However, distinguishing the concept of reinsurance fromproposals for a federal backstop, Eric Nelson, vice president ofrisk management for Travelers Personal Insurance and Small Businessin Hartford, said insurers should pay the premium for reinsurancecoverage of extreme catastrophic events.

The reinsurance feature is a departure from a plan outlined byTravelers Chief Executive Officer Jay Fishman in an August 27, 2007opinion piece published in the Wall Street Journal–which, like theplan Mr. Nelson described, also includes a limited role for thefederal government in regulating insurance rates and an emphasis onloss mitigation.

Mr. Nelson discussed Travelers' revised plan at the Standard& Poor's annual insurance conference in New York in early June.During the session (titled “Is A Federal Catastrophe BackstopNecessary or Desirable?”), supporters of a federal backstop fornatural disaster risks found common ground with private-marketadvocates.

“We need to leverage what's best in the private market,” saidEdward Collins, managing counsel for Allstate, who is also nationaldirector of ProtectingAmerica.org.

Referring to the proposal being promoted byProtectingAmerica.org, which contemplates both state and federalgovernment backstops for homeowners insurers, Mr. Collins said: “Weapparently haven't done a good job of communicating thecomprehensive integrated solution ProtectingAmerica.org isadvancing.”

By strengthening the nation's financial infrastructure to dealwith major events, he said, backstops would also allow money tobuild up over time, “instead of flowing offshore.” Returns on thesefunds could be “seed money” to advance loss mitigation andprevention efforts–including strengthening first responders andeducating consumers to prepare for major catastrophe events, Mr.Collins said.

In addition, “a backstop will make sure the private [insurance]market will continue to do what it does best,” he said. “Therewould have been a lot of major carriers wobbling on their knees,and some would have been flat on their backs,” if Hurricane Ritahad hit Houston in 2005, he added.

However, Stephen Weinstein, senior vice president and generalcounsel for Bermuda-based RenaissanceRe Holdings, said a governmentbackstop is not necessary or desirable, pointing to the fact thatprivate reinsurers absorbed nearly half the insurance losses fromthe 2004 and 2005 storms, and noting that government programs havea tendency to grow bigger over time.

But “it's also not quite right” to conclude “that governmentshould stand silent and let people fend for themselves,” hesaid.

Mr. Weinstein said state governments that have put in buildingcodes, for example, have “a proven track record of success,” citingscientific research showing that pre-code homes failed in Floridaas a result of Hurricane Charley in 2004, while post-code homessurvived.

In addition, Mr. Weinstein said, a program like one in SouthCarolina is the type of government solution that deserves attentionat a federal level. The program gives tax credits, grants and loansto homeowners and businesses that buy private market insurance fromsound companies, and who invest in their homes and businesses tomake them safer, he noted.

Howard Mills, New York's former insurance superintendent, alsovoiced disapproval of a federal backstop for natural catastrophes.A “backstop…means taxpayers are going to pay the tab,” said Mr.Mills, who is now chief adviser for the Insurance Industry Group ofDeloitte & Touche USA.

Because a backstop would tap every taxpayer, “you are bydefinition going to be going to people who do not [have]commonality of the risks…with those in question,” he said,referring to those who live on the coast. “You are going againstone of the fundamental principles of insurance.”

Mr. Mills instead proposes allowing insurers to set aside andinvest “dedicated catastrophe reserves.” By allowing such reserves,“ultimately…you're looking at premium-payers who will be paying,”he said, expanding on an idea for tax-deferred reserves introducedby New York's current superintendent, Eric Dinallo, lastOctober.

“He [was] on the right track and doing [his] best given theconstrictions of this wacky state regulatory system,” Mr. Millssaid of Mr. Dinallo. “[But this] really can't work on a stand-alonebasis.”

He explained that if New York requires insurers to set asidemoney, and they don't have to do this if they write homeowners inNew Jersey, “then New York would in fact put itself at acompetitive disadvantage and give Allstate and Travelers yetanother reason not to do business there.”

Explaining the dedicated-reserve approach, he said the industryneeds “to think about insurance the way the typical insured does.”For example, he noted, a Long Island homeowner who has paidpremiums to Allstate for years without a claim thinks Allstate has“a bucket of money with his name on it” to draw from hisaccumulated premiums when the big one does strike his house.

That insured doesn't understand that at the end of every year,“this capital goes elsewhere, because the tax code forces it to goelsewhere,” Mr. Mills noted.

“Why not enable the industry to invest some of that moneyso…actual premium dollars paid [are] invested” and funds remaindedicated for mega-catastrophes, Mr. Mills said, stressing thatappropriate controls and tax accounting laws would need to be putin place to guard against insurers moving the money around.

Allstate's Mr. Collins responded that “we agree we shouldn'thave the taxpayers as the source of funding” solutions to naturalcatastrophe issues.

But without backstops, he said taxpayers will continue to bedrawn into what he termed “the Air Force One” plan that operatedafter Hurricane Katrina–referring to President Bush's flyover tosurvey damage in the impacted area after the storm. “Air Force Onewent airborne, pulled the lever and $110 billion came out. You hopeit gets to the right people,” he said.

“This program [ProtectingAmerica] is about the private market,”Mr. Collins added. “It does not eliminate private reinsurance. Itadds capacity.” He said while “people that live on the beach needto pay all the costs associated with living on the beach…they don'thave to be exposed to the skyrocketing, escalating [insurance]costs that we see after events.”

Mr. Nelson said the federal reinsurance mechanism of Travelers'proposal attacks the affordability issue. He explained that mostcarriers don't buy reinsurance for really extreme events–forhurricanes with losses that are multiples of Hurricane Katrina'slosses–suggesting that having reinsurance available from thefederal government would stabilize the market.

Insurers would give up a portion of profits to pay premiums tothe federal government, which would be based on loss costs andexpenses, he said, adding that unlike private reinsurers, thefederal government wouldn't require a profit provision in thepremium.

Travelers' proposal also calls for the creation of fourzones–the Gulf, Florida, Southeast and Northeast–with the federalgovernment providing rate and underwriting regulation within thesezones.

“The basic tenet of insurance is really looking at homogeneousrisks,” Mr. Nelson said, explaining the need for the federalgovernment to create a more stable regulatory environment acrossstates lines in areas where hurricane risks are similar.