Unraveling the disaster risk insurance dilemma

Effective partnerships are like “the prisoner’s dilemma” where the best outcome – or Nash Equilibrium as we call it – is reached when all parties cooperate. Similarly, relying on uncertain, slow post-disaster assistance is a risky gamble, much like the suboptimal outcome in the 'Prisoner's Dilemma'. Effective protection requires foresight and cooperation, where the best outcome – or Nash Equilibrium – is reached when all parties cooperate. While selfish moves might seem appealing in the short-term, cooperation leads to the best outcome for everyone involved. This isn't just academic; it's the driving force behind the knowledge partnership between the World Bank and the Insurance Development Forum (IDF).

So, what does the disaster risk insurance dilemma look like? 

As is the case for any insurance transaction – you have a policy holder, and you have an insurer. One can argue that these are the two major parties involved in making an effective transaction, and in many instances that could be true. But this world gets more complex when you start to unpack who the policy holder is, what they are seeking insurance for, who the beneficiary of the insurance contract should be, and what access do they have to an insurer who can offer them insurance coverage for what they need.

When it comes to disaster risk insurance, we are operating in this complex world. The policy holders can be governments, cooperatives, businesses, farmers, financial institutions, or households. They can be seeking insurance for budget protection, business continuity, or job preservation. They may want some funds for immediate post-disaster relief, or they may want to replace what they may lose (their house, their crops, etc.). If they are in emerging economies, they typically lack or have limited access to domestic insurance markets able to offer such products. 

Photo: Vincent Tremeau / World Bank

Then what? Enter new players. Enter new approaches. Enter Creativity. Enter Choice. 

When it comes to products that are not mainstream, it requires creativity. Sometimes these attempts work well, sometimes they don’t – but isn’t that how any new market develops? Think Thomas Edison. 

Disaster risk insurance products are often designed with catastrophe risk models, that provide “parametric triggers”. Then with actuarial analysis, you price this to come up with how much the policy holder pays the insurance company, whether for one or more types of events, and how much the insurance company pays for a covered claim when these events take place. 

For those that prefer less jargon, let’s call it the “what if, then what” analysis. Based on available (or modeled data points), you can create many scenarios for “what if” a small, big, bigger disaster event occurs, “then what” each scenario implies in terms of damage costs. 

Who works on this? Many players. 

Academics. Independent risk modeling and actuarial firms. Insurance companies. And others that we haven’t even introduced yet. Relevant to name now would be calculating agents (who often calculate modelled loss when an event triggers a model) or loss adjusters (who validate claims for products that are not designed on parametric triggers, but based on actual damage caused, and therefore validate post-event loss for more accurate claims payments).

Whom have we not introduced yet? Reinsurers. Brokers. 

Remember that in emerging economies, domestic insurance companies may not be able to offer such products. So, what happens? They go to international markets, sometimes to reinsurance companies, who offer insurance to insurance companies. And in many cases, much more than that. Reinsurers often set the “terms” with insurance companies, who then negotiate the terms with the policy holder. 

What do brokers do? Depending on who hires them and what the country regulation says, brokers are meant to facilitate this process and advise the policy holder. If hired by the policy holder, they facilitate a dialogue between policy holders and insurance companies. If hired by an insurance company, they facilitate dialogue between the insurance and reinsurance companies. 

What is a key challenge? Asymmetry in knowledge. A key issue for achieving Nash Equilibrium in the disaster risk insurance dilemma. One reason why we don’t see scale in insurance transactions.

Why this asymmetry in knowledge? Because different stakeholders have access to different information and knowledge. This is accentuated when there are different capacities and levels of technical understanding across different stakeholders. Countries which do not have a developed insurance market will naturally have less experience with, and less knowledge about, insurance. 

To try and unravel this issue, in 2024, the World Bank (through its Crisis and Disaster Risk Finance Unit) and the Insurance Development Forum embarked on a Knowledge Partnership. The core objective being to start to address the issue of asymmetry in knowledge by enabling more organic, transparent, and effective flow of information among governments who are interested in disaster risk products, and the different stakeholders that form part of the insurance industry.

Participants at last year's Insurance Development Forum and World Bank Group Knowledge Hub Day and Insurance Development Forum Summit

In 2024, the World Bank facilitated participation of 30 government officials from 21 countries in the IDF Summit in London and the two partners co-created and convened a knowledge engagement to deepen insurance understanding of partner countries, and give insurance experts a chance to hear first-hand from governments about the challenges they face when considering accessing insurance solutions. Since then, several opportunities at operational level have been created for bridging the knowledge gap, including in-person and virtual events on topics of interest to the countries. Coming up in June 2025, is the second iteration of this co-created knowledge collaboration, financed by the Global Shield Finance Facility, at the sidelines of the IDF Summit in Venice, which celebrates IDF’s 10th Anniversary and looks ahead to what the next years will bring. 

A call to private and public stakeholders to build trust and strengthen collaboration, so we can get closer to the Nash Equilibrium. We need more governments to access effective, adequate, and fairly priced coverage from the insurance industry so that they can protect themselves against the increasing adverse financial impacts of disasters.

Click here to find out more about the IDF Summit 2025.

Further reading:
Implementation Update: IDF and World Bank Launch Knowledge Sharing Partnership

Insurance Development Forum & World Bank Knowledge Hub Day 2024