Parametric Reinsurance: Innovations in Managing Natural Catastrophe Risks in India

In a country like India where 70% of the rural population relies on agriculture for their income, climate change has the potential to cause severe disruption and financial losses, largely on account of crop-damaging events like cyclones, floods, and droughts. Moreover, when combined with infrastructure-related damages in flood and cyclone-prone areas, India has suffered economic losses to the tune of $ 7.6 billion in 2021 alone. With 75% of Indian districts being categorised as climate events hotspots, there is an urgent need to invest in adaptation measures and build additional climate resilience through appropriate risk transfer solutions. This underscores the critical role played by the domestic insurance industry in mitigating financial risks associated with extreme climate events and puts the spotlight on parametric reinsurance solutions that are helping create the financial resilience necessary for sustainable economic development.

Need to supplement traditional insurance solutions

Due to the rising frequency and intensity of natural calamities in India, the frequency of which has surged by over 20 times between 1970 and 2019, there has been increasing pressure on the capacities of traditional insurance programs and providers. Additionally, these traditional insurance programmes that work on the principle of indemnification of actual losses estimated by surveyors post an event cannot provide for immediate relief that is required in case of extreme climate events. In comparison, parametric reinsurance covers that work on the principle of benefit-based insurance provide claim compensation based on the occurrence of pre-defined weather criterion, resulting in quick and transparent claims settlements. These reinsurance solutions have the ability to provide coverage for losses that are difficult to model and offer the utmost flexibility in terms of product development and customization. Acting as an additional risk transfer mechanism, such parametric reinsurance solutions complement traditional insurance products and are therefore witnessing increasing demand across the larger Indian population.

Bridging protection gaps with parametric reinsurance

Despite the low awareness, parametric insurance and reinsurance schemes such as the Weather Based Crop Insurance Scheme (WBCIS) offered under the Government’s crop insurance scheme have been available in India since as early as 2007. However, with insurers and new-age insurance technology (InsurTech) firms increasing the pace of adoption of digital technologies, the use of both actual and modelled weather data to minimize the basis risk in parametric reinsurance is propelling the rise of innovative protection solutions. Notable examples include Crop Insurance covers for agriculture and allied segments, Rainfall Index insurance to protect farmers impacted by adverse rainfall incidence, Excessive Heat Index insurance for daily wage workers, Livestock Heath Index insurance to compensate for shortfall in milk production, and Commercial parametric insurance to compensate for costs incurred due to adverse weather conditions. With climate change poised to impact a larger spectrum of India’s population and economic activity on account of more severe natural catastrophes and extreme weather events, the potential for developing new parametric reinsurance solutions is bound to get larger by the day. As a result, insurers are leveraging technological advancements, employing more sensory data, and introducing new weather-based parametric reinsurance products, expanding well beyond just climate-related events to include pandemic protection, renewable energy protection, and other unique use cases.

Unearthing the massive potential of innovative parametric reinsurance solutions

The IRDAI’s ‘Model Insurance Village’ program is expected to catalyse further innovation and penetration of parametric reinsurance products in the agriculture and rural sector, building upon the Government’s existing efforts to build resilience across key sectors of the Indian economy through enhanced insurance protection initiatives. In fact, with increasing collaboration between domestic insurers and global insurance underwriters, the pace of innovation within the parametric reinsurance space is slated to only increase further. As Indian insurers fortify their reinsurance capacities and launch more affordable parametric reinsurance products, India is poised to gain a larger share of the $15.2 billion global parametric insurance market and could emerge as the global hub for innovation in managing natural catastrophic risks.

The author, Prateek Singhal is National Head Reinsurance, Howden (India). Views are personal.