Risk Management

Can Mandatory Environmental Insurance Resolve Pollution Problems in China?

Authority-driven incentives and enforcement are needed if we are to expect environmental insurers to bear the social responsibility of reducing pol...
Julien CombeauApril 3, 2013

The Chinese Ministry of Environmental Protection recently mandated nationwide compulsory purchase of pollution liability insurance for companies with high environmental risks, ahead of the originally forecasted target date of 2015.

There is little doubt that this accelerated notice is a response to what could be classed as a ‘pollution crisis’ characterised by recent events including; the Beijing smog, concerns over the safety of drinking water in Shanghai, the quality degradation of underground water resources across the country and reports that data concerning soil pollution is to remain a “state secret”.

The Extended Role of Insurance
A step beyond the global ‘polluter pays’ regulatory stance, China is now amongst the list of countries which over the past five years have introduced forms of mandatory environmental financial assurance through insurance. Other countries include Argentina, Czech Republic, Greece, Hungary, Kazakhstan, Philippines, Portugal, Slovakia, Turkey, Turkmenistan and to some extent, Spain.

One of the rationales behind these government decisions is that officials tend to believe that mandatory environmental insurance achieves the same social efficiency as imposing operating permits or penalties and sanctions. The logic is simple:

  • By transferring the review of operating controls and potential environmental threats to insurance, governments are expecting that specialty underwriters will assess the risks and apply pressure on operators to improve pollution risk prevention and protection at manufacturing sites.
  • Controlling the supervision of environmental insurance by enforcing authorities is a lot easier and cheaper than carrying out a full compliance gap analysis against operating permits. It can be done more extensively and more often, therefore improving the scale of the supervisory work. Authorities could then choose to suspend licencing of those which are not insured because they do not meet the insurability criteria.
  • After a pollution incident, governments are ensured that with environmental insurance, the responsible party is solvent and that tax payers’ money will not have to be used to pay for pollution liabilities.

Under such regimes, environmental insurers are bearing an important social responsibility, acting almost as non-administrative policy organisations by supporting the resolution of pollution problems at country scale.

Difficulties to Come
Firstly, in order to perform as described above, the mandatory environmental insurance schemes must overcome moral hazard exposures, have participating insurers mature enough to provide required coverage at a sustainable price for both themselves and for the insured, have sufficient manpower and engineering support to guarantee sufficient risk assessment and be in a position to enforce recommendations, which, in most of the countries where mandatory insurance is required, is not the case.

Secondly, with these mandatory insurance requirements generally applicable only for the most hazardous classes of business, governments are generating an adverse selection which could cause insurance markets to shrink rather than to develop. Insurers could be more tempted to manage their own risks rather than those from their captive but dangerous customer base.

For countries like China, mandatory environmental insurance should enable sufficient funding to clean-up, repair and indemnify, with no more bankruptcy after pollution which will be a great achievement. But for China and anywhere else in the world, if mandatory insurance is not implemented with authority-driven incentives to enhance pollution prevention and control, along with strong enforcement and sanctions, it is probable that we will see insurers pulling out of coverage areas or walking away from markets, rather than seeing them leverage industries on behalf of governments.

If this is the case, these provisions could prove themselves to be more counterproductive than beneficial to society, with not only pollution problems remaining but also unprotected populations and ecosystems.

Julien Combeau is executive director of the environmental practice of Willis, the global risk adviser and insurance broker. This article was first published as a blog in WillisWire and is republished with the permission of Willis.