Between fear and hope: a possibilist view on the role of insurance in combating climate change

Dear ladies and gentlemen,

Thank you for inviting me to share EIOPA's insights on the present and future of ESG within the EU's regulatory and supervisory framework for insurers.

No one really needs an excuse to visit Vienna in the spring, but today's conference and the opportunity to exchange thoughts with all of you definitely sweeten the deal.

I'm very much looking forward to our discussions throughout the day, but first things first, let's look at where we stand and where we're going.

[INTRO]

When we look at the world around us, it's easy to succumb to pessimism. There is no shortage of bad and alarming news out there whether we are thinking politics, societal issues, finance or the environment.

It's tempting, if not unavoidable, to think that things are getting worse. Is the number of violent crimes rising? Do more people live in extreme poverty than twenty years ago? Do fewer young people, especially girls, have access to quality education? Are senseless wars claiming more lives today than they did a decade or two ago? Is our global health on a path of decline?

An award-winning Swedish physician, Hans Rosling, argued in his book 'Factfulness' that the world isn't in as bad a shape as we tend to think. He took a thorough look at the FACTS themselves and showed that we starkly underestimate the progress we've been making. Our predisposition to focus on negative news leads us to be overly pessimistic about the state of the world and what we may be able to achieve.

[ENVIRONMENT]

Does the same apply to the environment, you ask?

Well, there is a lot of negative news indeed and it travels fast.

The numbers - the facts - show that we're facing rising risks on this front, both in frequency and severity.

Figures collated by Munich Re show that the number of natural catastrophes more than tripledover the past 40 years. Swiss Re found in a paperpublished last month that direct economic losses stemming from natural catastrophes amounted to almost 300 billion dollars globally in 2023 alone. Of this, insurers covered 108 billion. And while Europe wasn't the most affected, it's the fastest growing region in the world in terms of the damages.

The evidence is overwhelming and irrefutable.

But does this mean that we must succumb to pessimism? Certainly not. It means that we must get to work more than ever and see what we are able to achieve. This action-oriented approach is what embodies EIOPA's efforts in ESG now and will continue to do in the future.

And we are by no means alone in this. Insurers themselves are making valuable contributions to the fight against climate change. And while the realities of our time force politicians to focus on our sovereignty and defense, it does not mean that sustainability will take a backseat.

What do we have to do?

We need to:

1. INFORM
2. INCORPORATE
3. INVEST and
4. INCENTIVIZE.

[INFORM]

The fight against climate change starts with the collection of reliable, accurate and actionable information. Data is necessary so that we can

• measure the risk,
• understand where our defenses are lacking,
• predict losses with the help of modelling,
• price policies appropriately and
• develop strategies to lower the exposure through adaptation and mitigation.

But good climate data and modelling is difficult to come by - and often very pricy. To make sure that insurers large and small have access to both data and modelling, EIOPA has resolved to provide quality data and tools in an open-source format, free of charge.

The natural catastrophe dashboard we developed, our collaboration with Climada to offer user-friendly catastrophe modelling, and our latest data hub release on insured losses are just a few examples of our work in this area.

We will be taking up the issue of comprehensive data collection on losses and exposures with the next Commission so that we can share even more open-access data in the future.

Data collection is essential, but it's important not to stop there.

A strong pillar of EIOPA's role in sustainable finance is turning the information we already have into insights for the sectors we supervise. In this vein, we have published informative analyses on asset-side transition risks as well as on climate-related physical risks facing insurers through underwritten business.

We conducted a climate-focused stress test on occupational pension funds last year and will be participating in a joint stress test exercise this year with European supervisors, covering the entirety of the EU's financial sector from banks and markets to insurers.

We have also started exploring what implications biodiversity loss may have on broader financial stability. Estimates of financial damages related to biodiversity loss range from €1.7 to €3.9 trillion - annually. Here we are studying how the insurance sector can contribute to the restoration and conservation of nature through investment and underwriting.

[INCORPORATE]

All the work we have done thus far has only underscored that climate risk is unmistakably relevant for insurers. Both transition and physical risks can become material.

So in order to maintain the stability of the sector and to make sure that insurers can continue to provide vital services to households and businesses even in the face of mounting climate risks, the next logical step is to incorporate these learnings into risk assessment and the prudential framework.

One way to do that is via insurers' own risk assessment, or "ORSA", so that insurers have more clarity on the risks they are exposed to and the solvency and capital needs that might be required if and when these risks materialize.

To help insurers incorporate climate change risks in their risk assessment, EIOPA published a bespoke application guidance on materiality assessments and climate scenarios. This guidance is a detailed package, complete with concrete case studies, on how insurers can best implement sustainable finance ambitions in practice.

Back in 2021, only 13% of ORSAs made reference to climate change risk scenarios, which leaves a lot to be desired. We are currently following up on this with national supervisors, but our expectation is that this number has improved substantially since then in part thanks to our guidance.

Another inlet for including climate risk in insurers' risk assessment is through the standard formula for solvency capital requirements.

Here, certain hazards such as flood, hail, earthquake, windstorm and subsidence, that is, ground sinking, have already been included. Just a few weeks ago, we completed a reassessment exercise where we looked at whether the risk factors we allocated to these perils were still relevant in each member state in view of the latest data and scientific evidence.

We ended up having to readjust the factors in 16 cases. Of these, 12 were moved upwards, such as flood risk for Belgium, hail for Luxembourg, or windstorm where France's overseas territories saw their risk weights double. Beyond reassessments, we are also proposing to include additional countries for perils for which natcat risks were not covered previously. Nine countries are bound to be added for flood risk, including Ireland and Finland, or my home country, the Netherlands.

We are also considering - and consulting on - whether further perils would need to be added, such as coastal flood, wildfire and drought. I can only encourage you to participate in the consultation and give us feedback on this. Fighting climate change is a common effort and the rulemaking around it should be based on as large a sample and as diverse thinking as possible.

Then, as a third element, is the question of how regulation should treat assets and activities that are associated with environmental and social objectives - and those that harm them. This is the so-called risk differential or green/brown asset issue. At the core of this is whether insurers need to assign more capital to assets and underwritten business that are riskier from a sustainability perspective than they do with those that are more "future-proof".

We closed our consultation on this topic in late March and the jury is still out on how we'll proceed on this file. One thing is certain, however: our approach is strictly risk-based. If the evidence makes it clear that so-called brown assets and activities constitute greater risks than green ones, it would make sense to account for them accordingly in the prudential framework. But we have to have full trust in the data and models before we can come to a definite conclusion on this - and, as I mentioned at the beginning, good data is difficult to source.

[INVEST]

After highlighting the importance of information about climate change and the importance of incorporating such information in insurers' risk assessment processes, let me move to the third point: investment.

The European Commission and the European Environment Agency estimate that Europe needs an additional €480-520 billion of annual financing to meet its 2030 sustainability goals. While public authorities are at the forefront of these efforts, they can't go it alone.

It will require all sources of financing to reach this objective.

Private investments in future-oriented, sustainable projects are indispensable to reduce our dependence on the fossil fuels of the past and put us on a path towards a climate-conscious future.

Long-term investors like insurers and pension funds are among the best-placed institutional investors to get involved.

Insurers and occupational pension funds in the European Economic Area have a combined balance sheet of well over €10 trillion euros. Previous analysis by EIOPA has shown that only 2.6% of insurers' and 4.5% of occupational pension funds' corporate bond and equity holdings are aligned with the EU Taxonomy for Sustainable Activities.

The share of sustainable investments therefore can still increase substantially.

To allow for this to happen swiftly and prudently, first, efforts had to be made to bring more clarity and transparency to sustainability reporting.

SFDR has been instrumental in this regard as a frontrunner in the financial sector and the Corporate Sustainability Reporting Directive is expanding reporting obligations to non-financial companies. Investors will soon have broad access to the data based on which they will be able to judge how sustainable a company and its operations are.

The first disclosures will be coming out early next year for those included in the first phase of CSRD and more will follow as the scope gradually widens.

We have been advising the Commission on the underlying Sustainability Reporting Standards (ESRS) and made a strong case for greater comparability across different reporting requirements, such SFDR, and accounting standards like IFRS 17. We are conscious of the reporting burden on financial institutions and our intention is to make reporting smarter and more efficient, not more.

Together with EBA and ESMA, we have also been involved in the review of SFDR disclosures and will be delivering our Opinion next month. If I can foreshadow something, it's that we support efforts to make it easier for consumers to differentiate products that make sustainable investments from those that are focused on supporting the transition.

And with that, let me transition to the last topic I wanted to talk about: incentives.

[INCENTIVISE]

The beauty of insurance and something that fascinates me to this day is that it takes a risk that's too large for an individual person or company to carry and almost invisibly spreads it across a broader pool of clients. It converts the risk of potentially debilitating financial losses into manageable regular payments.

In other words, it transfers the risk from the client to the insurer.

But what it often does not do is reduce the overall risk.

Europe faces an acute natural catastrophe protection gap. 75% of losses stemming from natural disasters like earthquakes, floods and wildfires go uninsured on the continent - and the risk is only getting bigger. There's a lot we can and should do through greater insurance penetration to drive this number down.

EIOPA and the European Central Bank worked together on this issue and put forward policy proposals to spark off a larger conversation around this very important topic.

I hope you have come across this paper already. And if not, I can only recommend it.

If we implemented all the proposals to the letter from catastrophe bonds to well-designed public-private partnerships, we would have succeeded in making our continent more resilient to climate shocks. And that in itself would be quite an achievement.

But even that would not have reduced the risk. Climate change's impacts are already upon us. While efforts to mitigate it are crucial, we must also learn to coexist with its realities and adapt.

We need to find creative solutions not only to share the risk it poses but also to reduce it as much as possible. Also here, insurers have a role to play.

With impact underwriting, insurers can steer policyholders towards reducing risks. Some of the methods we have already seen is the installation of flood-secure walls and doors, replacing fire-prone vegetation around homes or using hail-resistant roof tiles, to name a few.

Risk-reduction methods like these can contribute to keeping insurance available and affordable in the face of climate change.

Some regions might well have already become uninsurable and we should be open to adjusting building codes to make sure new houses aren't being constructed in locations prone to flash floods or on eroding coastlines. The home insurance crisis in some parts of the United States should be a cautionary tale to us all.

Impact underwriting and incentives for more resilience are undoubtedly an important element of the puzzle.

[CONCLUSION]

Dear Ladies and gentlemen,

At the beginning of my speech, I mentioned Hans Rosling and his book about factfulness. In it, he argues that humans routinely belittle the progress we have made even when the data shows the opposite.

He urges people to shake off pessimism and be possibilists. A possibilist, in his own words, is someone who "neither hopes without reason, nor fears without reason."

With regard to climate change, we have reasons to fear and reasons to hope.

Fear because if we continued with the practices of the past two hundred years, we would clearly drive our ecosystems to the brink of collapse.

Hope because the realization that we must do everything within our power to turn the tides around is by now almost universally shared. We have a long way to go, but we are putting one foot in front of the another.

Insurers have a monumental role to play in the fight against climate change by

• informing our societies,
• incorporating risks,
• investing funds and
• incentivizing consumers towards more resilient behaviors.

EIOPA is here to support you in this endeavor with data, with modelling, with research and with greater transparency so that insurers can truly make a difference.

Let us turn away from pessimism to action so that fear can give way to hope.

Ladies and gentlemen, thank you very much for your attention.

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