The thorny issue of who assumes responsibility for terrorism cover remains a problem.

As the months slip by following the September 11 attack on the World Trade Center (WTC), the urgency of how to pay for a future terrorist attack becomes less urgent, replaced by a let's-wait-and-see attitude from the US government. This appears to be complemented by a let's-get-on-with-business swagger from the private insurance industry that sees an opportunity to make some real money for the first time in a decade.

In the months just after September 11, the US Congress rushed to conduct several highly-publicised hearings with leaders of the re/insurance industry to determine the extent of the losses from the WTC attack, as well as exploring how the industry planned to deal with providing insurance to cover future terrorist acts. And, most important, could the industry withstand another $30bn to $50bn hit without some form of government help?

In turn, the insurance industry, faced with losses of at least $40bn from the terrorist attack on September 11, warned that unless some form of federal government back-up facility was created to help defray future losses from terrorists, the re/insurers would have to exclude terrorism coverage from most policies and offer cover for terrorism for a separate premium. Insurance executives explained that pricing coverage for terrorism was next to impossible as the risk was "almost infinite." The industry warned that action needed to be taken quickly. As reinsurance contracts came up for renewal on 1 January 2002, most reinsurers would exclude coverage for terrorism. This action would preclude primary insurers from offering terrorism coverage since they could not pass on a portion of the risk to reinsurers. The result would be a serious blow to the timid awakening of a weak economy, as without insurance coverage, construction, real estate, transportation and utilities would be retarded. The alternative would be terrorism policies issued separately at a steep rate, making coverage available only to the richest companies.

Heeding the exigency of the situation, a bipartisan bill was cobbled together in December 2001 that arranged for a short-term, co-insurance arrangement between the private insurance market and the federal government. This facility would, essentially, be replacing the reinsurance industry. A senate vote on the bill was held up because of opposition to a tort reform provision in it. But then the prosperous bubble known as Enron burst and political, as well as insurer, attention swung sharply to observe the exposing of that fluid unpleasantness.

As further months creep between September 11 and the present, capturing the attention of Congress again and marshaling resources to have members take up or pass any bill relieving the insurance industry of even partial responsibility for paying future losses from terrorism seem increasingly distant hopes.

Forceful voice
One strong and verbal advocate of such legislation has been the American Insurance Association (AIA), based in Washington, DC. Julie Rochman, vice president, AIA, stressed that the federal government's involvement was still needed "because the economic dislocation of not having a back-stop is growing more day by day. The lack of appropriate insurance is a real drag on a number of major sectors of the economy - real estate, lending, transportation, construction. There is a widespread, very real problem, and the only way it can be addressed is in a comprehensive plan by Congress."

There is precedent for government involvement. Almost immediately following the September 11 attacks, the US and other governments came up with programs to help airlines after insurers announced they were cancelling coverage for acts of war, terrorism, sabotage, hijacking and similar events.

Ms Rochman believes there is an acceptable solution - a co-insurance arrangement, involving a substantial deductible, with the insurance industry taking up to $10bn or more per occurrence, and after that a sharing arrangement between government and insurers. A decision at Senate level was expected in late March or early April.

Andrew Firth, senior vice president, Carvill America Inc, Norwalk, Conn, said he hadn't seen a lot of pressure from the public for the government to get involved. "There has been huge pressure from the industry, at least initially, on Congress to provide some reassurance that the industry wouldn't have to go it alone if there were another attack," he said. He believed that since no economic meltdown occurred after 1 January 2002, as was predicted by some in the re/insurance industry, "politicians thought the industry was trying to overemphasise the potential danger to compel them to pass legislation that would create some sort of mechanism to help pay for future losses from terrorists acts."

Also, a report from the General Accounting Office (GAO) issued in October 2001, while not rejecting outright any plan to help the re/insurance industry, did not give any ringing endorsement of such a facility. While agreeing that the driving force for the federal government to provide financial backing to the industry would be "to safeguard the economy's access to necessary insurance protection," the report noted "care needs to be taken to ensure that the interests of both the federal government and American taxpayers are safeguarded, and that the insurance industry is assuming its fair share of risks."

It described several concerns to be considered: the program should not displace the private market; it should be temporary; and it should ensure that private market incentives for prudent and efficient behaviour are not replaced by an attitude that says, "Don't worry about it, the government is paying."

The report described a number of insurance programs that already exist in the US and other countries to help ensure that insurance is available to cover risks that the private sector has been unable or unwilling to cover by itself, including losses from catastrophic events and terrorism. For example, the federal government insures individuals and firms against natural disasters under the flood and crop insurance programs, and bank and employer bankruptcies under the deposit and pension insurance programs. Some federal programs cover political risk insurance for overseas investment activities, third-party claims for nuclear accidents, and protection against war-related risks. The California Earthquake Authority was established by California to insure the state's residents against losses caused by earthquakes.

Other countries and organisations have also developed insurance programs, the report said, covering catastrophic or terrorist events, and highlighted key features of such plans in Israel, Japan, Switzerland and the UK.

Enhancing reserves
Finally, the report suggested that the federal government could help insurers by creating a pool to build tax-free, multiyear reserves for potential losses. The government would stand behind the pool as a risk bearer until the pool reached a size that could handle a terrorist loss.

While not mentioned in the GAO report, the US government has in the past sponsored an insurance facility to pay losses from an enemy attack. The federal government created the War Damage Corp (WDC) in December 1941 to provide US property owners "with reasonable insurance protection against loss or damage from enemy attack or US military resistance." Insurance companies acted as WDC agents in receiving applications, issuing policies and handling the program. All polices were cancelled in April 1947.

More than a half year since September 11, the urgency for passage of some sort of 21st century government program to cover terrorist attacks seems to lessen. James F Duffy, chairman of St Paul Re, speaking at a gathering in New York, said the lack of a support program from the federal government remained a problem and that the industry, including the Reinsurance Association of America of which he is chairman, must continue to convince lawmakers to pass appropriate legislation. He did, however, doubt that passage this year will prove any more successful than in 2001.

Maurice `Hank' Greenberg, CEO of American International Group, was quoted as saying the likelihood of some legislation becoming law "gets dimmer" with each passing day. At an industry conference held in January 2002 in New York, a poll of participants found that 70% did not expect to see such legislation in 2002. However, they said the industry should keep pressing for legislation to set up some sort of federal terrorism backstop. Warren Buffett, CEO of Berkshire Hathaway, in the company's annual report, said a loss of $1trn would destroy the insurance industry unless the industry manages somehow to dramatically limit its terrorism exposure. He said that if the US government is unwilling to absorb some of the risk of such a loss, "the general citizenry must bear its own risks and count on the government to come to its rescue after a disaster occurs."

Exploiting opportunities
While pressing for some assistance from the federal government, the industry has been quick to take advantage of opportunities created by the turmoil following the September 11 attack. Within a few months, more than $20bn was raised within and without the insurance industry. A substantial portion of this new capital was used to create new companies in Bermuda.

This seemingly effortless raising of such a large amount of funds could make Congress wonder if the industry really needs a back-up plan for future terrorist attacks. "It is a drop in the bucket for terrorism risk," the AIA's Ms Rochman exclaimed. "It is not nearly enough to cover and replace the losses from terrorism. Terrorism was not even considered when the rates were established before September 11. Now the demand has become huge, not only from those who had the coverage and want higher limits now, but from those companies that didn't have it and want it now."

New capital's status
Carvill's Mr Firth believes all this "new capital following the terrorist act is a red herring." The public is led to believe that the funds are to relieve the pressure on providing insurance for terrorist attacks. "Why would smart investors want to put their money at risk where they aren't sure they can get a return - in fact could lose it all - if there were another event like September 11? The capital is coming in for other uses. It is just a coincidence that it came in now. It was triggered by September 11, but it had been planned for some time to take advantage of the rising insurance market."

He saw the new capital as bolstering potential profits in other lines of business. "It is being deployed," he said, "but it is moderating the price increases in other lines that would have had faster growth, if there hadn't been the influx of billions."

The billions will be put to good use as the private insurance industry has decided that while it needs the federal government's assistance to pay for another attack similar to that of September 11, it is not waiting around while Congress debates and delays. Rather, the industry is aggressively setting out to create a market to handle this new unknown and undefined exposure. AIG's Mr Greenberg told the Federal Aviation Administration to stop providing airlines with terrorism `war risk' insurance and allow private insurers to take over. AIG is one of the leading insurers of airlines.

In the future, getting enough terrorism insurance may be difficult, but it will be available as a specialised coverage eventually, and it will be expensive. Most reinsurers offer terrorism cover as a stand-alone policy, usually with carefully defined conditions on when it will respond. And while about 35 states have allowed primary insurers to separate terrorism coverage from other policies, New York and California have not. The remaining states have still to decide. Whatever role the government takes in softening the blow of any terrorist attack that may occur, what is a certainty is that the exposure, while it has been accented, has not gone away and its consequences must be dealt with eventually.

By Ronald Gift Mullins

Ronald Gift Mullins is an insurance journalist based in New York City.