What’s on Dec? | Episode 15 | What’s shaking with quake?

The federal government has committed $15 million to Canada’s long-awaited national flood insurance backstop, but P&C insurers say the 2024 federal budget was light on details — and funding.

Hear Alister Campbell, president and CEO of the Property and Casualty Insurance Compensation Corporation, discuss what’s needed for a government earthquake backstop now that the flood program is rolling out.

Do we need a Plan B considering the slow rollout speed of the flood program? Alister will discuss whether there’s a renewed sense of urgency this time around for earthquake risk. He’ll also say if the quake backstop should be modelled on flood, or if it needs to be modelled differently.

Audio transcript

Intro: You’re listening to What’s on Dec?, the Canadian Underwriter podcast focusing on the hottest topics in the P&C community, featuring insights, analysis, and interviews with subject matter experts throughout the year.

Pete Tessier: 

Hey everyone. Welcome to another edition of What’s on Dec? I’m Pete Tessier here with Curt Wyatt and we’re from The Insurance Podcast, and we’re going to be talking about earthquake coverage and the role that the federal government has put in to complement their flood initiative with earthquake.

Curt, we’ve got a great guest, old friend, Alister Campbell, who is the chair of PACICC, which is the Property and Casualty Insurance Compensation Corporation, I got that one right. And he’s going to share some information about what they’re looking at and how this earthquake program is going to backstop consumers and insurance companies.

Curt Wyatt:

Hey, that’s a mouthful. There’s no question Alister is an expert in our industry. He has tackled other large events that take place within the scope of insurance, even beyond that of what we’re talking about today, even though we’re going to hear some really big numbers. We’re lucky to have a gentleman like Alister to step forward and champion this concern.

Pete Tessier:

Yeah. Alister is going to shed some great light here on a little bit about what’s going on with how the program’s going to work, the fundamentals, and the numbers involved. They’re big, they’re interesting, and it’s quite a fascinating operation to find backstop for a peril that affects more places in this country than we thought before.

Curt Wyatt:

Hey, let’s get over to Alister and hear what he has to say.

Pete Tessier:

Let’s bring him in.

So Alister, thanks for coming into What’s on Dec? And how are things going at PACICC?

Alister Campbell:

Never a dull moment, honestly. But it’s the best kind of work we’re doing now because blessed with a well-capitalized industry, a well-reinsured industry, and we-supervised too, probably. A long way to get to I don’t have any insolvencies to manage this week, and so every week where I can say that at PACICC’s a good week.

Pete Tessier:

Hey, so let’s talk a little bit about the early stops with earthquake. Because obviously we have a national flood program that’s taken root, and PACICC’s obviously had some input into that and how that’s gone. Does what’s happening with flood sort of inform how you’re going to go about with the quake model? And what does that look like when you move into quake?

Alister Campbell:

Super question. So let’s just back up a little bit in the history book. And so we published a paper a decade ago roughly in which we answered a question that our board had asked us: how big does the event have to be before the PACICC system would fail? And that turned out to be a really big event. Somewhere in the 30, $35 billion insured loss event range, things would get very messy, because we really weren’t designed to handle multiple insurer failures at once. And so at somewhere at that threshold, things got complicated. We updated that paper in 2016 with a whole bunch of fresh input from the Conference Board of Canada and Deloitte and C.D. Howe.

And in 2017, the federal government said, “This is an issue and we’re going to tackle it,” which was a giant win for the industry. And they’ve been vigorously tackling it ever since, which is a polite way of putting it since we haven’t actually seen any evidence of progress. We know there’s a team working on it and we know that options have been identified, etc.

Where we got to last year was another big step forward because they reiterated their commitment on quake, but said they would be working on it in parallel with flood. But anybody who read that budget knew that the thing that was most on the government’s mind was flood. And honestly, that was on the industry’s mind too. And there was very good alignment there. And if you think about 2013 when we had floods in Calgary and Toronto and there was no flood coverage on any insurance product, and a decade later we have coverage for many Canadians and we have a clear sense of who it’s hard to cover, and we have a federal government that is moving to implement some form of public private partnership to tackle it. I don’t know that we’ve ever seen our industry move that fast ever. A decade is a short time for us antique insurance people, right?

Pete Tessier:

It is. Yes. As we like to say, “Insurance doesn’t move slowly, it moves glacially.”

Alister Campbell:

That’s right. And so here we have kind of grinding tectonic plates moving along, which is my subtle way of getting to quake.

So when the budget came out last year saying that flood was the priority, but in parallel, they would continue work on quake, I called up the folks at Finance Canada and said, “Why shouldn’t I just commit suicide now? We’ve been waiting a decade. Flood is not a systemic risk for Canada. Quake is a systemic risk for Canada, and I feel like I’ve just been put on the back burner. Should I just jump?” And they said, “Don’t jump. Every solution we’ve identified to tackle the quake backstop issue requires a reinsurance mechanism within the infrastructure of the federal government. We now have permission to get one of those to solve the flood file, but the moment we’ve got the flood file fixed, we can use that same mechanism to quickly solve the quake problem.”

And so that has as much comfort as I’ve taken in the last 24 months, because that’s not a small step.

Pete Tessier:

No, that’s a big step.

Alister Campbell:

In the budget just announced last week, they funded the reinsurance mechanism. It’s being stood up, as they say. It’s going in to be some part of CMHC. There’s a $15 million budget to fund the staffing and standing up of this mechanism. And presumably within 12 months, we could have something built and then some form of solution on the high-risk flood problem. And then, ideally, this mechanism can be applied to solve the quake problem too.

Pete Tessier:

So with this methodology, Alister, what does that look like when the government says, “We’re willing to commit to the reinsurance backstop”? What does the framework…does that mean to other insurance professionals? Are they creating a reinsurer? Are they buying the reinsurance? How does that work?

Alister Campbell:

One of the good things about insurance is it sets a price on risk. And if the price of risk is removed from the equation, people will take more risk. And so if we have a subsidy for higher risk, maybe more people will build in towns with names like High River, and then act surprised when the river gets high and ask government to bail them out. So those risks have to be tackled and solved as part of the solution.

But the idea that there is some form of public-private partnership for flood is a common idea in the U.S., in Europe. It’s almost embarrassing that Canada doesn’t have a solution that addresses this kind of proper risk-transfer balance for the worst sorts of tail-risk perils.

Curt Wyatt:

Alister, looking back over history, government has been a part of flood claims in the landscape in Canada. And for the most part, they come to the table. I think for us as Manitobans in the 2000s, we experienced a series of floods. And one of the things that the insurance industry found that through that process is that the governments are good at responding, but not necessarily good at handling claims and distributing the money in a timely fashion.

Is that something that you are considering for the backstopping of earthquakes? We don’t need government to actually handle the claims, rather be there for the financial portion of this and make sure that the system stays intact.

Alister Campbell:

Yeah. So I think that’s exactly the right way to think of this. If you think of a public-private partnership to tackle an insurable risk like this at the edges where it becomes uninsurable, there’s no rationale for the government to establish its own insurance company. We’ve already got pretty good companies that do exactly what you’ve described quite well, risk selection, pricing, underwriting, and claims management.

And so in the end, what government should be doing is providing the capacity to fund some portion of the risk, or some or all in the pool. But there’s no reason to have any other delivery mechanism than a competitive and pretty efficient private sector that we’ve got today.

Curt Wyatt:

Alister, it’s Curt here again. And just looking at the history books of what went on in Canada, we know somewhere 300 years ago that there was a major event. We don’t have anything in writing, but we do see that geography points to the fact that we know that the West Coast has a major exposure to this. We know that two-thirds of the population of that province is sitting somewhere in and around this concern. And there’s a number that’s been thrown out, it’s $35 billion.

Can you tell us a little more about how your organization is working to discover what that exposure is?

Alister Campbell:

Super fun question. So first of all, we didn’t try and do it the way seismologists would do it. And you’re absolutely right, the historical data for the two big quakes in Canada in the last 500 years, one in B.C. and one in Quebec. And we could have a big quake in either part of Canada. It’s not just a Vancouver issue.

Pete Tessier:

That’s right.

Alister Campbell:

The history we have is what First Nations oral history has told us. The Charlevoix quake, which severely shook Boston, was happening roughly when Champlain was arriving. So the colonizers were just showing up on the continent. And so it was a very long time ago. So the science for that is as good as earthquake science is. You get smaller shakes. We have a very, very good idea of where the plates are. We know where they’re rubbing up against one another, etc. The science is what it is.

The 35 billion number, which is the PACICC number, comes from the reverse end of things. We know how much capital the industry has and we know how much reinsurance the industry buys. How big a shock do we have to have before a companies start to fail? And it doesn’t have to be quake. It could be asteroid strike. It could be some kind of space weather phenomenon. But of those severe really awful tail risk scenarios, the most credible is quake, because Canada is 100% a country with two big quake exposures, one in Central Canada and one on the West Coast.

And so our number for 35 billion is based on how much of a loss would we have to experience, so think 10 times Fort Mac, and then companies start to fail.

Pete Tessier:

Right.

Alister Campbell:

And then when companies fail, PACICC steps in and we send out an invoice to the rest of the industry, and our invoice causes the next companies to fail. And so that is the contagion problem for which we need a backstop instead.

Pete Tessier:

Ah, interesting. So that really explains sort of the role of PACICC in that you’re there to backstop the industry and help spread the loss. But when something gets so severe, it’s a domino effect and it takes everyone else down.

Alister Campbell:

Bingo.

Pete Tessier:

One of the things, and Alister, I know we’ve talked about this at past conferences, just you and I together at times, as an original Vancouverite who now lives in the flatland, I’ve moved from one Cat peril to the other, we often talk about how the industry has priced out the modelling for insurance deductibles. Given that we have a society that is property rich and cash poor, particularly in Vancouver, is there a threat with the modelling of these 20 to 25% deductibles that could have other effects on the industry if people elect not to pay them? Is there any sort of way to help manage people who may not have a quarter million or $300,000 in cash to absorb the loss? And does that trigger into some of this stuff with earthquake modelling?

Alister Campbell:

So, brilliant question. So there are three problems we need to solve with quake. The first is that there are people with risk who aren’t buying any insurance at all. In Quebec for instance, only about 3% of the population buys quake insurance, and they have a much bigger risk than they know. And so uninsured people, that’s a direct contingent liability to government. It’s going to be a cost to society if the event happens there.

In British Columbia, about half the folks who have risk do buy, but they’re buying a product that has risk attached to it. There are exclusions in the product for soil liquefaction, for instance, or tsunami, that could lead to many people who are buying cover and think they’re being protected, discovering that the actual cause of their loss is excluded under the policy they bought. And they may not have fully read their policy.

Worse than that, as you’ve correctly identified, are these deductibles. And so at the point where you see highly mortgaged Vancouver with a 20% quake deductible as a special limit on their policy, there is a real risk that the product will fail to respond to the expectations of the consumers, even those who in good faith paid premium for coverage that they thought would protect them. And that is both a real risk for those citizens, and a terrible reputational risk for our industry.

The final of the three problems is that at some size of event, almost certainly worse than a 1-in-500-year quake, but one that could happen this afternoon, there just simply will not be enough capital and reinsurance to backstop the coverage that is there, which includes both shake coverage and fire following. And there are readily available models to show that we could have that loss in Montreal; we could have that loss in Vancouver.

And so when we think of a solution, we need to work out how to have an affordable price and product that more consumers buy. We need to have a product that responds to the need with fewer exclusions and lower deductibles. And we need to have, especially if that product is sold to more people with fewer exclusions and lower deductibles, we really need a backstop at the top end to protect the industry from the worst-case scenario.

And it’s that three-part problem. There’s a Netflix show called the 3 Body Problem right now. This one isn’t quite as hard to solve, but it’s tough.

Curt Wyatt:

Alister, we’ve focused here on quake. And let’s face it, there’s no question it’s a big number. The industry tackles big numbers all the time, and we know this. It doesn’t take long to not pick up a publication throughout any time of the year and see that there’s large hail losses going on in Alberta. There’s water exposure in the Prairies. We have countless events that take place throughout the year, forest fires and what have you.

And I guess the question then is in addition to earthquake, is PACICC looking at the fact that there is a number of Cat losses and how does the industry tackle this when moving forward if you are going to say, “Look, we’ve backstopped you on quake, but what about the rest of these large Cat events?”

Alister Campbell:

I was in Quebec City speaking to the Canadian Council of Insurance Regulators week before last and making this precise point. At the point that the terrible quake event happens in B.C. or Quebec, the consequences are visited on the citizens of every province, especially if insurance companies fail, and especially if there’s no backstop. Because it’ll suddenly be way more expensive or even impossible to get insurance for your car in P.E.I. because of an event that’s happened in another part of Canada.

Nobody is insulated inside our country from the events in one part of our country when it comes to something this large, and the consequences will be shared across all buyers of insurance, across all lines of business, across all regions of Canada. You’re absolutely right.

Pete Tessier:

Alister, want to thank you for jumping on What’s on Dec? with us. You’re easily one of the best quotes in the industry, if not the best. And I always love chatting with you and hearing your thoughts because you articulate them so well. We’ll look forward to catching up, and thank you for joining us.

Alister Campbell:

It’s been a pleasure. Thanks for the opportunity.

Pete Tessier:

Curt, 35 billion stands out in my mind. That’s a big number. And obviously as Alister explained it, that’s got to be something they consider so that we don’t have insolvencies should these big quakes happen.

Curt Wyatt:

And in addition to the 35, Pete, I think your point of asking Alister about the fact that other Cat losses could potentially bring the industry to its knees, and how does this organization look down the road at tackling those issues? And if we can get the ball rolling on quake, can we get it rolling on other items that have been a concern to the industry? And let’s face it, to keep things going in the direction the insurance industry needs to go for the purpose of building a great country.

Pete Tessier:

I think the underlying message that Alister sort of hinted at was there is a role for government to play in this, but it needs to backstop industry solutions because they are the ones closer to the risk and the threat vectors of large Cat losses. And if we can get it right and moving, there’s a lot of opportunity for businesses and entities to flourish. Because as Alister said, when you reduce the cost of risk, you can take more risk. And that’s a very important part of the equation.

Curt Wyatt:

Yeah. And I think Canada is a great sandbox to get this rolling in the sense that, hey, we’re a mature country. We have a fairly large population now at 40 million. But not so big that we can’t tackle some of these big issues and come forward with a solution that could go out to other countries in the world that are maybe larger populations, different geography to Canada’s, and look and say, “Hey, let’s solve this problem so that down the road, our kids and grandchildren can know that insurance works and it’s there for them when something bad happens.”

Pete Tessier:

Amen to that, Curt. Hey everyone, thanks again for listening to us on What’s on Dec?

Outro: Thanks for listening to What’s on Dec?, the Canadian Underwriter podcast.