UK development policy shake-up: Role for risk transfer, cat bonds, private capital?
As part of the shake-up of the UK Government’s international development policy and approach to humanitarian funding and aid to be announced today, Artemis understands there will be a nod to a role increasing transfer of insurance risks, while the use of private capital from investors will be highlighted, suggesting that catastrophe bonds could be an increasingly relevant and supportive structure.
Among the sources we spoke with, there is a prevailing sense that the new development policy proposal will emphasize tapping private capital markets as a source of aid funding, as the UK government attempts to protect a position that saw it. reduce dependence on taxpayer funding.
As a result, we are told that in the future the focus will be on mobilizing capital using effective structures that can provide contingent sources of financing when humanitarian situations arise, providing funds for recovery, reconstruction and relief in a rapid and structured manner.
The UK government is set to invest more money under a new climate fund focused on resilience and adaptation, but with a mission to find new sources of private capital funding to work alongside this financing, such as pension funds, in order to increase the country’s foreign aid. the expenses go further.
A white paper is expected to be published today. It has been reviewed by financial experts and multilateral financing organizations. He will explain that countries should leverage private capital structures and appetites to make aid funding go further and be distributed more effectively. anticipated and structured manner.
In addition to direct financing for resilience and adaptation to climate change, insurance and reinsurance solutions should also be offered, with structures proposed to ensure that humanitarian financing can be provided as disasters strike.
All of this speaks to the use of instruments such as catastrophe bonds, as well as parametric triggers, which we have already seen successfully deployed in sovereign and humanitarian scenarios, as ways to attract private capital to support climate resilience and the humanitarian response to climate. disasters.
There is a desire to secure pre-agreed and conditional sources of humanitarian funding, which is precisely how we envision the Catalyst Bond structure used in the case of Sovereign Catastrophe Bonds issued by the World Bank.
He also discusses initiatives such as the Red Cross Volcano Disaster Bonds, which used parametric triggers to structure a privately funded source of humanitarian funding that could be deployed in the event of a major volcanic eruption.
We are told that the UK government wants to reposition the value of humanitarian aid and international development aid with the help of private capital, to reduce the focus on taxpayers as the main source, whilst making the much larger amounts of funding available, using financial means. market techniques to lock in funding over multi-year periods, while ensuring certainty of its deployment in the event of a humanitarian disaster.
All this suggests that contingent capital structures, including catastrophe bonds, could play a key role, as tools capable of combining expertise from insurance and reinsurance markets with that of the capital market, to provide humanitarian and disaster-responsive financing that can provide liquidity. just when countries really need it.
Cat bonds are a suitable tool that can be used to transfer financing responsibilities to private markets, while transferring risks from countries facing the greatest climate-related humanitarian risks and therefore likely to need assistance, by locking in development type financing from institutional investors which can then be deployed rapidly, depending on the conditions requiring the use of aid, with the use of parametric triggers ensuring rapid delivery of required relief.
Finally, we are told that there will also be a focus on using technologies such as artificial intelligence to improve the ability to model the effects of climate change and its impacts on areas such as food security and the need for ‘humanitarian aid. The UK wants to become a leader in this area and, of course, modeling fits well with the role of risk transfer and private capital, as advanced models can help structure financial mechanisms to deploy aid to both reactive and anticipatory.
Update:
The UK Government’s White Paper on International Development has just been published, confirming that risk transfer, insurance and instruments such as catastrophe bonds, as well as structural innovations including parametric triggers, will play a clear role .
The white paper states that, when it comes to disaster resilience:
A major shift is needed in the way low- and middle-income countries are helped to prepare for and respond to disasters. Humanitarian appeals are usually made after a disaster has already occurred. So it may take weeks or months before the promised help arrives. It is much quicker and more efficient to act in advance, with reliable funding secured by insurance or other arrangements that kick in automatically and disburse funds quickly to implement an agreed-upon contingency plan. advance. Ideally, funds will flow through existing systems, such as social protection, which can be quickly expanded to reach those in need.
Prearranged financing, such as insurance, ensures rapid disbursements and minimizes economic scarring. Countries need more support to identify the main risks they face and the best instruments to mitigate these risks. Responses with pre-arranged financing are much less costly and more effective, as damage can be avoided by acting quickly. Currently, only 2.7% of global crisis financing is organized in advance. This figure can and should be much higher.
Disaster risk financing mechanisms must be expanded and strengthened, with greater coverage of vulnerable populations. This involves expanding regional insurance risk pools in Africa and the Caribbean to enable them to cover more risks and ensure that countries and humanitarian agencies can afford the insurance they need. The Global Climate Shield will provide a framework for coordinated action on this issue. The City of London can be the insurance market of choice for developing and underwriting packaged finance, using the extensive capabilities and skills available.
The UK government pledges to increase the use of “pre-arranged finance, such as insurance and other support for early and anticipatory action”, to help reduce the impact of climate change on the poorest and the most vulnerable.
The government is also committed to “partnering with the City of London insurance market to develop and underwrite pre-arranged funding arrangements to manage disaster risks”.
Saying: “We will ensure UK brokers are involved in transactions that build trust and generate value for money, enabling more public-private partnerships. »
Additionally, the UK wants to be a leader in advising and assisting countries to access disaster funding, with the government’s white paper stating: “We will do this by supporting the Global Shield and the Center for Disaster Protection, funded solely by the UK and the go-to resource for information on disaster risk financing.
