Aviation renewals have been hit hard by the events of 11 September, following as they did yet another poor year for the market.

For several years, the aviation re/insurance market has been suffering. Competition has been high and rates have been correspondingly low. The pain had already set in earlier this year, and brokers and underwriters alike were commenting there was no choice but to increase rates. Then 11 September hit, and the market changed beyond all recognition.

As one market commentator said, the ironic thing about the events in September was that until that point, what was probably the worst year ever for the aviation market was one of best from a safety point of view. Nevertheless, the figures speak for themselves; for the 12 months to the end of September this year, for non-violent acts there were 15 total losses amounting to hull claims of $268m and 59 major partial losses with hull claims reaching $238m. That brings the hull losses to $506m. Adding in acts of violence, that figure is almost doubled, with $510m in hull losses from eight total losses, and $4m from three partial losses. Thus, hull losses alone come to more than $1bn for the period. As for liability, the two airlines, American and United, involved in the losses of 11 September are believed to have $1.5bn in cover per event, so there is little doubt the final figure will be huge.

In the immediate aftermath of the destruction in the US, industry observers were warning of insolvencies among airline insurers. At time of writing, none of the major players in the aviation market had withdrawn from the sector, though airlines were finding quotes for I October renewals reaching for the sky. Sources within the market indicated that certain programmes were seeing rate increases in the hundreds – if not thousands – of percent compared to the previous year's premiums and that was with insurers excluding terrorism on the programmes. With primary insurers prepared to taken just the first $50m for third party exposures, airlines found themselves with potentially huge exposures in a world which had take on a new risk profile. Governments were asked to step in to provide the cover, without which airlines would not have been able to fly under contracts with aircraft leasing companies and banks, which generally require a minimum of $700m third party coverage.

Never one to miss an opportunity, AIG stepped into at least part of the breach, when in early October it put together a facility for aviation war risk and hijacking liability coverage. AIG leads the master line slip, with Ace, AXA, Chubb, Everest Re, GE Frankona, Glencoe, Hannover Re, Kemper, Liberty Mutual, St Paul Group, Tokio Marine, TransReCo, Travelers, XL and Zurich Re all signed up. The facility offers $150m excess of the $50m available from the primary market, and up to $850m excess the $150m. In addition, AIG is offering other air travel-related coverages such as an airport and a ground handlers' facility, both with $50m primary war risk and hijacking liability coverage. AIG chairman Hank Greenberg commented, “Airlines around the world play a critical role in facilitating world trade and helping nations participate in the global economy. AIG has led the response to the urgent need for an adequate aviation insurance market and together with the participants in this co-insurance pool, are providing airlines with the insurance coverage necessary to maintain operations in an unprecedented environment.”

That the environment is unprecedented is beyond doubt. What is more unsure, however, is the direction the airline industry itself is taking. Passenger numbers around the world have plummeted since the events of 11 September. Already, many airlines have slashed the size of their operations, pulled routes and, in some cases, found themselves on the brink of insolvency.

Such a major contraction in the industry is bound to have repercussions on the aviation insurance market, even if capacity shrinks in the light of claims and general market conditions.

Although many airlines are blaming the events of 11 September as the catalyst for the problems they are now facing, experts disagree the terrorist attacks on the US are the only factors behind the industry crisis. Airline experts concur that the industry was experiencing a downturn before the terrorist attacks on United and American Airlines, though they don't dispute that the attacks significantly worsened the position. In the wake of those events, airlines are facing massively increased security costs, on top of the increased insurance charges, which will inevitably lead to higher ticket prices. At the same time, people are concerned about their own safety, and steering clear of air travel.

After the recent halcyon days for the airline industry, the downturn has been sharp and hard.

In fact, for some time industry commentators have suggested the aviation sector has been overstocked with airlines, and that a fall-out was inevitable. Speaking recently, Rigas Doganis, visiting professor in airline management at Cranfield University, pointed out that Europe has more than 40 flight carriers, “and all of them are trying to be world players with an overextended network.” This is compared to six or seven major carriers in the US. That the European airline industry requires consolidation is not in doubt, commented Mr Doganis. The real question is whether it should happen now, in a time of crisis, or when the industry has calmed down, an environment which will only be established if governments step in to shore up the businesses. “Certainly governments are intervening everywhere now to save their airlines,” he said. “In Malaysia, the Malaysian government has taken over control of its national carrier, in Switzerland and Belgium the government has stepped in to save their carriers. They're not prepared to let them go out of business virtually overnight at the drop of a hat. If they do help them through this crisis then perhaps in a more rational environment we may be able to sort out who should survive and who should be taken over, who should be merged with another carrier.” Or, indeed, who should shut operations entirely.

A decade ago, airline passenger numbers dropped dramatically following the start of the Gulf War. Within a year, volumes had reached their previous levels, despite the increased costs of flying. Whether this situation will be repeated is very much open to debate; the current circumstances, focusing as they do around a less definable terrorism threat rather than a specific conflict, are very different from the Gulf War, and world leaders have suggested the “war against terrorism” could last for months, if not years. Public reaction could well be to ‘batten down the hatches', particularly if there is a concurrent global recession. This would inevitably mean lower revenues for many airlines, which could lead to even more flights being scrapped and planes being mothballed. In turn, this would mean fewer assets for airlines to insure. The question then becomes whether the current capacity crunch for aviation insurance will turn round to become yet again a surfeit in the market, pushing the cycle into downturn. Already, the AIG terrorism facility has shown that insurance capacity is not going to flee the market when trouble is not just looming but staring it in the face.

The world has changed since the beginning of September, and it is still far too early to be able to assess the direction it is travelling in. Nevertheless, experts such as Mr Doganis are confident the airline industry will weather the currently bumpy ride. He anticipates the crisis will soften somewhere between six and 18 months time, when the airline industry will return to growth mode. But in our new world, only time will tell.