A Travelers executive speaking at a rating agency conference earlier this month said his company's proposal to deal with insurance issues arising after natural catastrophes now embraces the concept of a federal reinsurance program.

However, distinguishing the concept of reinsurance from proposals for a federal backstop, Eric Nelson, vice president of risk management for Travelers Personal Insurance and Small Business in Hartford, said insurers should pay the premium for reinsurance coverage of extreme catastrophic events.

The reinsurance feature is a departure from a plan outlined by Travelers Chief Executive Officer Jay Fishman in an August 27, 2007 opinion piece published in the Wall Street Journal–which, like the plan Mr. Nelson described, also includes a limited role for the federal government in regulating insurance rates and an emphasis on loss 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 Backstop Necessary or Desirable?”), supporters of a federal backstop for natural disaster risks found common ground with private-market advocates.

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

Referring to the proposal being promoted by ProtectingAmerica.org, which contemplates both state and federal government backstops for homeowners insurers, Mr. Collins said: “We apparently haven't done a good job of communicating the comprehensive integrated solution ProtectingAmerica.org is advancing.”

By strengthening the nation's financial infrastructure to deal with major events, he said, backstops would also allow money to build up over time, “instead of flowing offshore.” Returns on these funds could be “seed money” to advance loss mitigation and prevention efforts–including strengthening first responders and educating 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. “There would have been a lot of major carriers wobbling on their knees, and some would have been flat on their backs,” if Hurricane Rita had hit Houston in 2005, he added.

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

But “it's also not quite right” to conclude “that government should stand silent and let people fend for themselves,” he said.

Mr. Weinstein said state governments that have put in building codes, for example, have “a proven track record of success,” citing scientific research showing that pre-code homes failed in Florida as a result of Hurricane Charley in 2004, while post-code homes survived.

In addition, Mr. Weinstein said, a program like one in South Carolina is the type of government solution that deserves attention at a federal level. The program gives tax credits, grants and loans to homeowners and businesses that buy private market insurance from sound companies, and who invest in their homes and businesses to make them safer, he noted.

Howard Mills, New York's former insurance superintendent, also voiced 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 of Deloitte & Touche USA.

Because a backstop would tap every taxpayer, “you are by definition 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 against one of the fundamental principles of insurance.”

Mr. Mills instead proposes allowing insurers to set aside and invest “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 introduced by New York's current superintendent, Eric Dinallo, last October.

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

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

Explaining the dedicated-reserve approach, he said the industry needs “to think about insurance the way the typical insured does.” For example, he noted, a Long Island homeowner who has paid premiums to Allstate for years without a claim thinks Allstate has “a bucket of money with his name on it” to draw from his accumulated 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 go elsewhere,” Mr. Mills noted.

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

Allstate's Mr. Collins responded that “we agree we shouldn't have the taxpayers as the source of funding” solutions to natural catastrophe issues.

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

“This program [ProtectingAmerica] is about the private market,” Mr. Collins added. “It does not eliminate private reinsurance. It adds capacity.” He said while “people that live on the beach need to pay all the costs associated with living on the beach…they don't have 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 most carriers don't buy reinsurance for really extreme events–for hurricanes with losses that are multiples of Hurricane Katrina's losses–suggesting that having reinsurance available from the federal government would stabilize the market.

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

Travelers' proposal also calls for the creation of four zones–the Gulf, Florida, Southeast and Northeast–with the federal government providing rate and underwriting regulation within these zones.

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

Special Reports /

Travelers Supports Federal Catastrophe Reinsurance, To Be Paid For By Insurers

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