Following recent incidents of war and terrorism, Hermes Marangos asks how re/insurers can provide cover for politically motivated acts?
The terrorist attacks of September 11 2001 and the subsequent war have brought an old question to the foreground: are insurers and reinsurers equipped to provide cover for risks that are essentially political in nature - not credit/political risks but rather involving losses from harmful political acts? Traditionally, the answer generally has been no. Since at least the time of the Spanish Civil War, war and associated perils have not been considered to be the responsibility of the average insurer or reinsurer. Recent events have served to convince insurers of the correctness of that approach and of the need to extend it even further.
Many obvious reasons exist why insurers and reinsurers refuse to provide such cover. Principally, it is difficult to rate such risks, considering the unforeseeable and possibly catastrophic effects of such `political acts'. Furthermore, the insurance industry has not been prepared to shoulder risk for areas of fundamental importance to the existence and functioning of a stable society that has been considered traditionally to be primarily the responsibility of states and governments.
One could be forgiven for thinking that, having taken the decision to exclude terrorism and similar acts, the market would by now have been able to properly limit its exposure to such risks. In reality however, numerous political, legal and commercial complications have operated to mitigate against the attainment of that goal.
Definitions and exclusions
Firstly, simply excluding `terrorism' per se does not begin to deal with all the repercussions of September. 11 Numerous terms and provisions in traditional wordings need to be redefined or revisited to take into account the new realities. Some of these wordings are discussed in more detail below.
An attempt to define `terrorism' whether narrowly or widely may not in itself deal with these key concerns. For example, defining terrorism in overly flexible terms to encompass all conceivable `harmful political acts' may be attractive in the short term but is bound to antagonise not only insurance commissioners and legislators (who are struggling to define what they consider as proper limits to terrorist exclusion particularly in North American insurance contracts) but also insureds who may see their traditional cover disappear without an explanation as to the true change in the risk.
Furthermore, where a justifiable expectation exists that exclusions should be clear and that words should carry their natural meaning, terrorism exclusions that do not require `terror' or anything akin to terror as an essential element may draw criticism, especially from insureds and insurance bodies or authorities whose interest is the use and proliferation of clear wordings.
Of course, reinsurers and insurers (subject to their local regulations in relation to their own underlying contracts) can define the parameters of their obligations as they choose. The industry will miss a great opportunity, however, if insurers fail to face up to the challenge of defining the extent of cover in simple and specific terms. If terrorist groups have the capability to inflict great harm without the use of terror, then there is no substantive reason why insurers and reinsurers should not be able to utilise appropriate terminology to exclude such risks. But a more straight and courageous (and perhaps more acceptable) method of achieving this result more clearly may be to deal with risks, not under an imaginative umbrella of `terrorism' but in their own right (suitably amended wherever necessary) whether they be riot, civil commotion, electronic interference, biological and chemical attacks, etc. In practice, however, even a detailed `crystal clear' exclusion may be seen as overly broad and unreasonable by insurance regulators empowered to approve or reject such wordings (see below).
To the extent that the legal considerations can be isolated from political and commercial considerations, the principal areas of concern for drafters include the following issues:
New or perceived new terrorist threats -
As `terrorism' is becoming increasingly widespread and as the perpetrators of terrorism are continually developing more `sophisticated', `imaginative' and unpleasant methods of furthering their goals, the list of potential threats today is much longer than was traditionally contemplated by the market. For example, modern insurers may now have to consider matters such as: subversive acts of mass destruction, terror acts by states, chemical or biological attacks, radiation and/or nuclear detonation, new forms of electronic interference, computer viruses, damage to intangible property and so on.
Related risks -
Even when there is agreement on the `qualitative' difference between terrorism and other violent acts, commentators still debate on the exact categorisation and wider effects of such acts of mass terrorism; they can be seen as self-contained acts of ultimate forms of criminality at one extreme, or, on the other hand as expressions of `perverted' warfare, potentially linked to conflict areas worldwide. Whichever view one takes of any particular incident, from an insurance perspective, it is clear from the impact of recent events that it is now appropriate to review and update wordings defining government, warfare, foreign enemy, state responsibility, usurped power, hostilities, popular rising, guerrilla warfare, acts of quasi-sovereigns, responsibility of failed states, actions of armed gangs, de facto authorities, and so on.
Other traditional risks impacted by recent events -
The most important of these are civil commotion, riots, strikes and labour disturbances. Acts of terrorism can significantly destabilise societies even if they are thousands of miles away from the terrorist incident itself. In this respect, consideration must be given as to whether and how to exclude such associated occurrences when drafting terrorist exclusions. In addition, insurers and reinsurers sometimes try to differentiate between different types of riots in order to provide cover, for example, for `economic' riots rather than `political' riots; this is always a difficult distinction to make, and is made more difficult by attempting to `factor in' a terrorism exclusion.
Burden of proof - As an insured is more likely to have control over the evidence than its insurer, insurers may wish to consider contractually reversing the usual burden of proof to deal with such exceptional and extreme circumstances as terrorist attacks. The effect of such a clause would be that once an insurer can show a prima facie case that the losses are excluded because of, for example, war, then the burden of proof would shift to the insured to overcome that exclusion.
Law and jurisdiction issues -
In light of the international nature of such disputes and the alleged political or quasi-political significance of terrorist incidents, insurers and reinsurers may wish to consider providing for the adjudication of claims to take place in a more `neutral' jurisdiction rather than, for example, where the re/insured resides. A typical example of looting or riot claims involves a debate between insureds and insurers as to whether a given event was the result of a covered event (e.g. looting) or a non-covered event (e.g. civil war). It is easy to see that there may be concerns about choosing local law and jurisdiction in such a situation.
Since September 11 in particular, insurers and reinsurers appear to have found themselves frequently debating what areas should be properly excluded from cover. Insurers, perhaps to satisfy their regulators and to show sensitivity, tried to provide as broad a cover as possible then waited to see the reinsurance market's reaction. Reinsurers, realising the multifaceted increase in exposure due to terrorism have been developing extensive exclusions.
Insurers have had to take into account additional considerations concerning their need for approval from insurance commissioners. In the US, for example, since insurance is regulated at the state level, permission is required from state commissioners to change policy exclusions. More than 40 states have so far approved optional terrorist exclusions, with notable exceptions, such as California and New York. The New York Insurance Department has been `lobbied' by numerous insurers for permission to exclude losses resulting from viruses and various other microbes. Whilst it cannot be said with any certainty that insurers will be successful in incorporating their new exclusions, reinsurers (who are not subject to the same regulatory constraints as insurers) have no reason not to redefine the extent of the cover they are prepared to advance.
The general reassessment of cover following recent events thus has provided insurers and reinsurers the opportunity to clarify whether their contracts function as `back-to-back' insurances or as separate contracts with separate conditions of cover. In this respect, the existence of different legal regimes and relevant jurisdictions leads to an even greater potential divergence between contracts at different layers.
State reinsurance for terrorism?
When considering the acceptability of terms, insurance commissioners and insurers would be wise to remember that it is pretty nigh impossible for insurance to exist without reinsurance. Reinsurers' continuing ability to diversify allows insurers to continue providing cover, especially in troublesome parts of the world. If reinsurers are prepared to provide cover only on a limited or restricted basis, or refuse to cover terrorism and associated risks, local insurers will have to look for cover elsewhere, either in a specialist market that is happy to provide `political acts' cover, or from the government itself.
Various governments already have experience with this process. The Spanish government has developed a programme through the `Consorcio de Compensación de Seguros', a compulsory Spanish government scheme which includes cover for terrorism. The French governmental `Caisse Centrale de Reassurance' has agreed to extend its cover for insurers from natural catastrophes to terrorist attacks. England operates the Pool Re scheme, whereby insurers pool premiums to cover terrorism insurance, and many other countries are now considering whether they can develop similar schemes.
The industry has been watching the debate in the US surrounding the passing of a federal terrorism reinsurance bill and Congress' approach to the issue of a government-insurance industry partnership with great interest. To date, the US government has shied away from taking an active involvement in setting up a `Pool Re'-type of arrangement. The fact remains that there is a real, and not just perceived, threat of terrorism that impacts on the re/insurance industry's ability or willingness to provide the same cover as that provided prior to September 11.
Ultimately, governments appreciate that their economies and the international market presuppose the existence of a healthy insurance industry. A fear that such an industry could collapse will lead more and more governments to assume the role of insurer of last resort regarding terrorism. Since insurers cannot be forced to structure their insurance covers to satisfy every insurance commissioner (at least without losing the backing of their reinsurers), governments will inevitably look at what reinsurers are saying.
Despite the various debates, all interested parties are agreed that reinsurance provides the stability and the structure for a successful insurance industry and is an essential element of modern international economic activity. In a hardening market this is a strength but also a test of the market's responsibility. The work done following the September 11 disaster in redrafting exclusions for terrorism, political acts and related wordings can assist in accelerating the clarification of the extent of cover across a whole spectrum of insurance, reinsurance and retrocession contracts. Such clarification hopefully will lead to proper pricing, clearer wordings, and better mechanisms for claims handling and dispute resolution.
The overall effect of the developments in the industry might be to cause more governments to conclude that they are needed to be insurers of last resort.
By Hermes Marangos
Hermes Marangos is head of international insurance and reinsurance at law firm Cozen O'Connor in London. Having researched war and civil disturbance-related issues during his time at Cambridge and subsequent to his attending at the prestigious Sant'Anna Academy as a visiting scholar, Hermes also acts as a consultant to the UN, the EU, the OSCE and other international organisations.