adjust prices, and that the price of commercial reinsurance also serves as a check on whether the
pricing is accurate.

Mr. Clark noted that Pool Re has been in existence for 25 years and has up to $8 billion in i
protection. He asked Mr. Enoizi how much debate they have had within Pool Re about

determining the proper amount of capital, and the proper proportion of sharing across sources of

capital. Mr. Enoizi responded that Pool Re has had many debates about how much is enough

capital, and in the 1990s when small attacks were a weekly occurrence it might have been better

to have the capital reside with the private market, however now that the risk is with larger “black

swan” events it could be better to have this capital reside with the Treasury. However, Mr.

Enoizi stated that he believes the private market is better at with the ability to efficiently model

claims, and the current system incentivizes private market activity.

Returning to the discussion of whether the current level of capital is sufficient, Mr. Enoizi stated
that the ability to model radiological or nuclear losses has demonstrated that £6.5 billion is not
enough. However, he added that increasing the capital from £6.5 to £20 or £30 billion is not the
right action, and the money would be better spent investing in mitigation to either prevent the
event or limit damage.

Mr. Driscoll commented that the risk retention of the U.S. insurance industry under TRIA is
fairly sizeable in comparison to Pool Re. He also stated that conventional terrorism and NBCR
risks can be bifurcated. NBCR risk losses are unknowable and governments can provide
protection for these losses, however for conventional terrorism the reinsurance market has
capacity beyond the confines of TRIA, and he therefore suggested that may be where reform
should be focused. Given this, he asked Mr. Enoizi how much capacity he believed was in the
market beyond the $2 billion in reinsurance that Pool Re has purchased. Mr. Enoizi responded
that he wasn’t sure because Pool Re hasn’t attempted to purchase additional coverage, but it has
thought about bifurcation and is actively looking at whether Pool Re should increase the market
retention on conventional terrorism, but leave it at its current level for NCBR and cyber. Mr.
Enoizi added that he believes it would be possible to purchase more reinsurance, but it would not
be sufficient to cover a large loss (i.e. the size of 9/11) given certain risk aggregations.

Mr. Sapnar stated that Pool Re does not have mandatory offer or purchase provisions, as
compared to the United States which has a mandatory offer requirement (at the federal level) and
price restrictions (at the state level). Mr. Wright added that NFIP does not have mandatory offer
provisions, but it does have some provisions which require purchase of flood insurance for
federally-backed mortgages in certain areas. Mr. Sapnar asked the panel to comment on: (1) the
merits of a “mandatory offer” program that does not require purchase as well, (2) why Pool Re
has chosen to not make offer or purchase mandatory, and (3) how the post-funding mechanism
under TRIA (which requires 140% recoupment) would operate if an event occurs that only
impacts a few risks/insurers, but nonetheless results in the imposition of a policy surcharge
across the industry. Mr. Enoizi responded that very few of the European pools have mandatory
offer or purchase provisions, including Pool Re. He stated that he does not believe in mandatory
coverage, but having a mandatory offer provision would be a positive step in reducing moral
hazard. He said a mandatory offer provision would erase post-event issues if a consumer chose
not to purchase terrorism coverage, because they made an affirmative decision to not purchase.


the government due to elections, however he expects that future discussions with the government
relating to cyber terrorism cover will include a condition that insurers implement cyber resilience
measures. He estimates that inclusion of cyber in the program would result in a premium
increase of approximately 10 to 15 percent.

Pool Re has set up a terrorism risk research and analysis center, which is available to members to
help them assess their risk and determine if they want to purchase a deductible in-fill policy
(which in turn stimulates the private market). This information is also made available to Pool
Re’s reinsurers and the government.

Mr. Enoizi noted that Pool Re was the driving force in bringing together pools from other nations
to exchange information. 14 countries have national pools, and each operates differently. Mr.
Enoizi believes that collaboration is important because sharing information will allow for aspects
to be taken from each pool structure build an optimum model that shares risk and premium
between the consumer, the insurer, and the government.

Mr. Enoizi stated that Pool Re’s objective is to operate only where there is market failure, and
the company undertakes a competition law review each year to ensure it is not stifling the private
market. Furthermore, Pool Re is incentivizing the market to take as much risk as possible. As a
result of the 2014 government review, Pool Re now has the ability to pay insurers a dividend out
of its surplus (in effect returning premium to the industry). This ability to pay dividends is
intended to correspondingly increase member retention.

Mr. Enoizi said that Pool Re would also like to return more pricing control to the market. Part of
the problem with the current structure is that all insurers charge the same premium (set by Pool
Re), therefore no insurer has a competitive market advantage. Although he indicated he does not
have an answer for how to handle the issue, Pool Re’s Chief Underwriting Officer is working on
finding a way to create more price differentiation and competition in the market.

Pool Re only covers large-scale property damage, and does not include workers’ compensation.
The three events over the past few months have shown different forms of loss than originally
intended under the program. In the aftermath of the Westminster Bridge attack, major attractions
in London were shut down, and business interruptions to the economy were significant but not
covered (because Pool Re coverage responds only to property coverage and business interruption
resulting from the property coverage). Once the Treasury certified the Westminster attack as
terrorism, all of the property policies that would have otherwise covered business interruption
losses were no longer covered, therefore creating a gap in coverage.

France identified a solution to this problem by attaching a €1.4 charge to every policy sold,
however Mr. Enoizi said he believes that in Britain he would consider it a failure if the
government had to impose a tax to solve a problem that could be instead solved by Pool Re.
Accordingly, he stated that a preferred solution would be either to extend Pool Re coverage to
business interruption, or persuade the market to remove the terrorism exclusion from their
policies. With the exception of this gap, Pool Re provides back-to-back coverage, so the loss
would either be a property loss, or a terrorism loss.


Mr. Kunreuther stated that data and analysis have shown that some insurance markets work
extremely well. Term life insurance, auto collision, and homeowners’ insurance are some
examples where policy prices accurately reflect risk, because the prices are based on historical
data. However, pricing poses challenges for extreme events such as terrorism and flood, which
are low probability events that can cause very high consequences. Mr. Kunreuther stated that
these create challenges for policyholders, regulators, and insurers we have limited personal
experience with these events and limited data, and the data we do have is changing over time.
Mr. Kunreuther added systematic biases exist in estimating the likelihood and consequences of
these events, and humans use simplified decision rules as a result of these biases.

Mr. Kunreuther highlighted Thinking Fast and Slow by Daniel Kahneman as a book that has
influenced the work of the Wharton Risk Management Decision Processes Center. This book
discusses two systems of thinking: intuitive thinking (system 1) and deliberative thinking
(system 2). Mr. Kunreuther stated that intuitive thinking operates automatically and quickly with
little or no effort. In intuitive thinking, decision-makers use very simple associations, and
emotions and judgmental bias play a key role. Past experience is also extremely important in
making a decision, so there are challenges when a decision-maker doesn’t have experience with
the situation. Mr. Kahneman’s book states that humans do extraordinarily well when using
intuitive thinking to make everyday decisions (i.e. deciding to stop a car in a near-accident
situation), however we do very poorly when using intuitive thinking to handle low-probability
events. Therefore, the goal is to move closer to deliberative thinking, which requires examining
cost-benefit analysis, interdependencies, and long-term strategies. Mr. Kunreuther said that the
goal of decision-makers should be to get to the point where we can recognize intuitive thinking
and substitute deliberative thinking.

Mr. Kunreuther then discussed behaviors triggered by intuitive thinking. First, he discussed
availability bias, in which people estimate the likelihood of a disaster by its salience. For
example, they will make a purchase after a disaster occurs, and not before (even though when
asked, they would respond that it’s less likely for another event to occur after the first event).
The second bias held by humans is the threshold model, in which people fail to take protective
measures if the perceived likelihood of disaster is below the threshold level of concern. A third
bias is imperfect information, in which people misperceive the likelihood of the event occurring
as well as its consequences. Finally, Mr. Kunreuther discussed myopia, which is the focus on
short-term horizons in comparing upfront costs of protection with expected benefits from loss
reduction. People resist the high up-front cost of protection because they don’t believe that they
will experience a loss within the short term, even if the long-term benefits will outweigh the cost.

Mr. Kunreuther then discussed how decision-makers can move to a system of deliberative
thinking which respect to insurance. Although insurance is a mechanism for protection against
financial loss, many people view it as an investment mechanism and therefore do not purchase
insurance because they believe they will not receive a “return” on their investment. For
example, even if an individual purchases flood insurance after a flood, a few years later they will
stop buying premiums because they believe they could have saved money on the premiums they
“invested.” To counteract this behavior, Mr. Kunreuther suggested highlighting the importance
of buying insurance for peace of mind, and reminding policyholders that the best return on an
insurance policy is no return at all. He stated that the Decision Processes Center had proposed


Hazards Reduction Program, and the National Dam Safety Program. FEMA’s programs promote
arisk-conscious culture, enable faster recover from flood disaster, and address long-term
vulnerabilities to life, property, and the well-being of communities across the nation. Mr. Wright
chairs the Interagency Mitigation Framework Leadership Group, which coordinates mitigation
and resilience efforts across with federal government in consultation with state, Jocal, tribal, and
territorial governments, as well as the private sector. He is also responsible for the delivery of
environmental and historic preservation technical assistance and compliance across FEMA.
programs. Mr. Wright was asked to speak about the NFIP’s recent experience with purchasing
private reinsurance.

Mr. Wright stated that although his program deals with a different peril, it engages with many of
the same questions about the appropriate use of reinsurance. Mr. Wright stated that the NFIP is
not just about insurance — Congress created the program 49 years ago by laying out four
dimensions of focus: the assessment of risk (largely addressed with flood risk maps); working
with communities to adopt building codes and standards to reduce future risk; developing
incentives to take properties out of harm’s way; and offering an insurance product. NFIP covers
about 5 million policies offering $1.25 trillion in coverage.

NFIP is required to offer coverage to anyone who seeks it, regardless of how many claims they
have filed or the nature of their risk. Although NFIP is a national program, Mr. Wright noted
that the program is concentrated in certain locations (specifically Florida and Louisiana).

Congress mandated certain discounts in the creation of the NFIP for homes that were constructed
in the past. Although these are sometimes referred to as subsidies, NFIP does not make
payments to these homeowners, but rather charges these homeowners less than the actuarial rate.
This has created the possibility that an event would occur which will require a payout that
exceeds the Program’s liquidity. Mr. Wright stated that outside of the losses from Hurricanes
Katrina and Sandy, the NFIP runs in the black, even with the mandated discounts. NFIP accepts
premiums from policyholders throughout the year, but also has a post-event funding mechanism
in place.

Mr. Wright acknowledged that the Program is subject to a large amount of political concern.
The NFIP is backed by the full faith and credit of the United States Treasury. Under the
enabling statute, NFIP has borrowing authority from the Treasury. The NFIP borrowed money
from Treasury following Hurricane Katrina, and there has been a small increase in the amount
owed due to interest on the principal. Following Hurricane Sandy, NFIP borrowed additional
money from the Treasury.

The NFIP is able to take advantage of Treasury interest rates with an average rate of 1.6 percent.
However, the interest rates can fluctuate and a doubling of the current interest rate would put the
Program in a position where it would not be able to service its debt. Over the past 12 years,
NFIP has paid $4 billion to service its debt. Mr. Wright noted that under the enabling statute, the
NFIP is not able to include the cost of capital (including servicing debt) in charging premiums,
however the Program is required to use the premiums received to service the debt. He stated that
under the current framing of the statute, there is no practical way for the NFIP to repay this debt.


The Westminster attack also raised the issue of the use of a vehicle for terrorism. The motor
insurance community in the United Kingdom is not pricing for this type of event, and they are
therefore worried about the ramifications. Pool Re is having conversations to determine how to
close this gap.

Finally, the attack raised the issue of personal injury. Injuries under the attack are covered by the
government under the civil injuries compensation program, however these types of injuries can
also be viewed as an insurable event that the industry could provide a coverage for.

Pool Re has spent a lot of time trying to determine how to improve its model, and insure other
types of “uninsurable” risks such as cyber attacks, pandemics, and climate change. Mr. Enoizi
stated that he doesn’t believe it is necessary to nationalize these types risks, and a conduit can be
developed for the market to take as much risk as it is capable of; leaving the government with the
systemically and societally catastrophic risk that it would nonetheless be left with regardless of
the private market’s involvement.

Mr. Enoizi noted that it is important to address the information gap in how the government relays
threat information to businesses. Many businesses complain that they don’t know what to tell
their employees about threats, and Pool Re can provide a conduit for providing this type of
information on how to respond.

Mr. Enoizi said that Pool Re spends a lot of time examining other models, such as the California
Earthquake Authority and the New Zealand Earthquake Authority. These models provided Pool
Re with an incentive to incorporate mitigation measures into its program. Mr. Enoizi then
returned to a discussion of the different terrorism risk pooling mechanisms used around the
world, and repeated that the coverage under these programs differs - for example, some cover
life insurance arising from terrorism, some cover injuries that occur from terrorism abroad. Mr.
Enoizi presented a chart comparing the different pool models used around the world.”

Mr. Enoizi concluded by reiterating that Pool Re’s purpose is to add value by changing the
behavior of consumers and enhancing resilience in economies. Pool Re has operated for 23
years at no cost to taxpayers, and even if the taxypayer did have to pay (through the Treasury),
Pool Re would have to repay these amounts. The risks since 9/11 have changed, and Pool Re in
turn has had to change by encouraging private market to take the risk rather than nationalizing it.

Presentation by Federal Emergency Management Agency 3

Mr. Sapnar introduced Roy Wright, the Federal Emergency Management Agency’s (FEMA)
Deputy Administrator for Insurance Mitigation. Mr. Wright leads FEMA’s federal insurance and
tisk mitigation administration that delivers the agency’s risk management, risk reduction, and
flood insurance program. Mr. Wright directs the National Flood Insurance Program (NFIP), the
mitigation resilience programs under FEMA’s Stafford Act authority, the National Earthquake

? This chart is located on page 14 of Mr. Enoizi’s presentation, available at

hittps://www.treasury. gov/initiatives/fio/acrsm/Documents/ACRSM_Presentation_By_Pool_Re-.pdf.
* Mr. Wright’s presentation is available at
hittps://www.treasury.gov/initiatives/fio/acrsm/Documents/ACRSM_Presentation By FEMA.pdf.



Mr. Wright stated that NFIP is still learning about ways to relay data to reinsurers while
complying with the Privacy Act. For example, the NFIP cannot provide loss information on an
address basis while remaining compliant with the Privacy Act, however data can be released at a
zip code level and include policy count and losses. Given these restrictions, Mr. Wright said the
next step will be to look at losses within a certain distance from the flooding source within those
zip codes.

FEMA has established several “moonshots.” It would like to see flood coverage doubled by
2023. There are about 150 million households in America, and about 10 million fall within the
highest hazard zone. NFIP currently insures 5 million policies. FEMA plans on achieving this
goal through the private market as well as through improvement of the NFIP.

Currently, everything in the NFIP is relayed through the private sector (primarily through the
write-your-own program), and there are no FEMA employees who sell policies or adjust claims.
Many desire to see the private markets grow, and Mr. Wright expressed his commitment to
working towards this goal, as he believes private absorption is best for the program. However,
there has been an extended political discussion about where private absorption should be placed,
and Mr. Wright stated his belief that if there was a “silver bullet” the problem would have been
solved long ago. He added that when the Program was created, people assumed that
homeowners would move out of harm’s way, and the private market would be able to establish
and entirely own a market. Yet, to date this has not happened. Accordingly, Mr. Wright stated
that NFIP must continue to look at its financial framework and its IT, and continue to change its
customer experience.

Presentation by Wharton School, University of Pennsylvania‘

Mr. Sapnar introduced Mr. Kunreuther, a Professor of Decision Sciences and Public Policy at the
Wharton School and Co-Director of the Wharton Risk Management Decision Processes Center.
Mr. Kunreuther’s area of interest is in the ways that society can better manage low probability,
high consequence events related to technological and natural hazards. Mr. Kunreuther is a
fellow of the American Association for the Advancement of Science and a Distinguished Fellow
of the Society for Risk Analysis. He currently serves on the NASNRC Roundtable on Risk
Resilience and Extreme Events. His recent books include Af War With the Weather, Insurance
and Behavioral Economics: Improving Decisions in the Most Misunderstood Industry, and
Leadership Dispatches: Chile's Extraordinary Comeback from Disaster. Mr. Kunreuther
received the 2015 Shin Research Excellence Award from the Geneva Association and the
International Insurance Society in recognition of his outstanding work on the role of public-
private partnerships in mitigating and managing risks, as summarized in his paper “The Role of
Insurance in Reducing Losses from Extreme Events: The Need for Public-Private Partnerships.”

Mr. Kunreuther wanted to build on the comments made by Mr. Enoizi and Mr. Wright and focus
on the role that behavioral economics, in particular linking intuitive and deliberative thinking,
plays in insuring against terrorism and other extreme events.

4 Mr. Kunreuther’s presentation is available at
hittps://www. treasury, gov/initiatives/fio/acrsm/Documents/ACRSM_Presentation By Wharton _School.pdf.



UNITED STATES DEPARTMENT OF THE TREASURY
ADVISORY COMMITTEE ON RISK SHARING MECHANISMS
SUMMARY OF PUBLIC MEETING

June 9, 2017

The Advisory Committee on Risk Sharing Mechanisms was convened at 10:06 a.m. on June 9,
2017, in the Cash Room at the U.S. Department of the Treasury, 1500 Pennsylvania Avenue
NW, Washington, D.C., with Wendy Peters, Chair, presiding.

In accordance with the provisions of the Federal Advisory Committee Act, the meeting was open
to the public.

Committee Members Present:

WENDY PETERS, Executive Vice President, Financial Solutions — Terrorism and Political
Violence, Willis Towers Watson, Chair

JONATHAN CLARK, Managing Director, Guy Carpenter & Company LLC

KEAN DRISCOLL, Vice President and CEO, Validus Reinsurance, Ltd.

GREGORY HENDRICK, President, P&C Insurance and Reinsurance, XL Catlin

EDWARD RYAN, Senior Managing Director, Aon Benfield

MICHAEL SAPNAR, President & CEO, Transatlantic Holdings, Inc.

JOHN SEO*, Managing Principal, Fermat Capital Management LLC (represented by proxy

Adam Schwartz)

KEITH WOLFE, President US P&C — Regional & National, Swiss Re

*Represented by proxy
Also Present:

STEVEN SEITZ, Deputy Director, Federal Insurance Office, U.S. Department of the Treasury

LINDSEY BALDWIN, Designated Federal Officer, Senior Policy Analyst, Federal Insurance
Office, U.S. Department of the Treasury

RICHARD IFFT, Senior Regulatory Insurance Policy Analyst, Federal Insurance Office, U.S.
Department of the Treasury

JULIAN ENOIZI, CEO, Pool Re

ROY WRIGHT, Deputy Associate Administrator for Insurance and Mitigation, Federal

Emergency Management Agency

HOWARD KUNREUTHER, Professor, Wharton School at the University of Pennsylvania and

Co-Director of the Wharton Risk Management and Decision Processes Center


Mr. Kunreuther concluded by identifying the theoretical features of a public-private partnership
for insuring terrorism and other extreme events, and discussing whether these theoretical features
could be implemented in practice. Under this theoretical scheme, the facility at risk would pay.
for small losses, through deductibles or other mechanisms. The private insurer would pay for
medium losses, the reinsurer would pay for large losses, and the federal government would for
catastrophic losses. The government could also play an additional role. In flood insurance, for
example, the government plays a role in flood plain management, building codes, and land use
regulations.

Mr, Kunreuther noted that the TRIA program has many of the features outlined in this type of
public-private partnership. Insurers have a deductible that they must meet, and the private
insurance industry pays for much of the losses. Private reinsurers may enter and provide
coverage for the next layer, and ultimately the government covers catastrophic losses.

In 2014, prior to the most recent re-authorization of TRIA, the Decision Processes Center
conducted a study with RMS involving a variety of terrorism risk scenarios and examined the
impact in four different cities (Chicago, Houston, Los Angeles, and New York). Mr. Kunreuther
provided several charts showing the outcome of these scenarios.

Mr. Kunreuther identified several open questions for the Committee to consider:

e How do you estimate the risk of terrorist attacks?

e What data can the public sector provide to address the need to estimate risk?

e How do you construct worst-case scenarios that will make people pay attention?

e What is the role of catastrophic modeling companies in providing data?

e What mitigation measures can be undertaken to reduce future losses?

e What data can the public sector provide to mitigate future losses?

¢ What premium reductions should be applied to encourage investment in risk-reduction
measures?

e What impact will a future large attack have on insurer behavior?

e Will uninsured firms who suffer losses receive federal relief? (Mr. Kunreuther noted that
if federal relief if provided, individuals will not purchase insurance)

e Are there affordability issues that need to be dealt with? How should it be handled if an
individual cannot afford coverage?

e What can we learn from international comparisons?

Mr. Kunreuther summarized his thoughts by stating that stated that people do not understand the
role of insurance, and we need to help them understand. Insurance can help spread the risk of
unavoidable disasters and offer incentives to invest in adaptation or mitigation measures. He
added that decision-makers need to combat myopia and encourage consumers to purchase
insurance by focusing on the long-term while providing short-term incentives.

Panel Discussion

Chairwoman Peters opened the floor for panel discussion.

* See presentation for these charts.



the idea that an insurance company could give a “bonus” to a policyholder at the end of the year,
and encourage the policyholder to use that bonus to celebrate the fact that they did not
experience a loss. Mr. Kunreuther suggested that this framing could help relieve the anxiety and
worry an individual experiences when they do not have insurance protection.

Mr. Kunreuther also emphasized counteracting availability bias by highlighting the financial
problems that would result if a disaster occurs and the business does not have insurance. He also
stated that it is possible to successfully overcome the threshold model by expanding the time
horizon when looking at potential losses — for example the probability of experiencing a flood in
the next year may be one in a hundred, however if an individual stays in their house for the next
25 years, there is a greater than a one in five chance of experiencing at least one flood. Framing
the possibility of loss in this way increases the likelihood that an individual will buy coverage,
and they will be willing to pay more for that coverage. He added that the Decision Processes
Center is working with FEMA and a White House Task Force to determine the best way to
communicate this information type of information to consumers and encourage the purchase of
insurance to protect against future losses.

Mr. Kunreuther stated that insurers can be subject to the same biases. As an example, he stated
that prior to 9/11, U.S. insurers did not charge anything for terrorism insurance despite the
attempted bombing of the World Trade Center in 1993, the 1995 Oklahoma City bombing, and
other terrorist attacks throughout the world. After 9/11, many insurers refused to provide
terrorism coverage, or if they did they charged extremely high premiums.

This behavior shows that prior to 9/11, insurers treated the likelihood of a terrorist attack in the
United States as below their threshold level of concern. After 9/11, availability bias played a key
role, as insurers focused on the enormous potential claim payments from another terrorist attack
and therefore determined that terrorism was an uninsurable risk. Mr. Kunreuther stated that the
passage of TRIA was an interesting solution to this problem, but also noted that it took 9/11 for
TRIA to emerge as an option. Mr. Kunreuther added that imperfect information also played a
role in insurer behavior, because insurers failed to take into account the likelihood of a future
terrorist attack in determining premiums.

Mr. Kunreuther stated that one of the difficulties with providing terrorism risk insurance is
estimating the risk of terrorist attacks. Terrorism events are unpredictable, and the United States
has limited data available to assess terrorism as a risk. In addition, terrorism risk is impacted by
dynamic uncertainty, because the likelihood and consequences of terrorist attacks are determined
by a mix of strategies and counter-strategies which will change over time. As a result, past
experience cannot play the same role as it does analyzing other types of risks (i.e. automobile or
homeowners’ coverage). Mr. Kunreuther also noted that interdependency plays an important
role in terrorism risk, because terrorists will respond to security measures by attacking more
vulnerable targets, and damage to an unprotected target can impact a protected one. Finally, the
government has influence on the risk of future attacks and the will of terrorist groups. Mr.
Kunreuther re-emphasized Mr. Enoizi’s and Mr. Wright’s statements that mitigation is extremely
important, but addressing these challenges is also critical.


Mr. Wright stated that in 2016, the Program suffered a large series of aggregate losses, and in
early 2017 borrowed $1.6 billion. This borrowed amount included money needed to make an
interest payment to Treasury. This was the second time in the Program’s history that money was
borrowed to service the Program’s debt.

Mr. Wright stated that the priorities of the NFIP are to bring far more transparency to the
financial framework of the program. He believes that good public policy and stewardship
demands it, and to the degree that the Program is engaging private markets, this transparency is
necessary.

In 2012 and 2014, Congress took statutory action to encourage NFIP to secure “risk transfer
instruments” such as reinsurance and insurance-linked securities. In 2012, NFIP began a study
to analyze risk and understand the viability of reinsurance. Mr. Wright stated that some of his
predecessors did not favor purchasing reinsurance, because the cost of reinsurance was higher
than the rate offered by Treasury. Therefore, even though the study found that reinsurance was
an available option, NFIP decided not to move forward with purchasing reinsurance.

Mr. Wright stated that when he entered a leadership role with FEMA two years ago, he wanted
to move forward with reinsurance to ensure a strong financial framework. The Program was not
able to transfer all of its top-end risk, but Mr. Wright believed it was important to begin to
transfer some of the risk while there was an abundance of capital available in the marketplace.
As a result, although the NFIP is still dependent on the Treasury, it now also leverages private
markets.

The NFIP is the first federal program that has secured reinsurance, although several government-
sponsored enterprises have previously secured reinsurance. The NFIP has authority to enter into
arrangements and contracts with companies (both in selling policies as well as signing treaties
outside of the federal acquisition processes that would normally be used), although this authority
had never previously been exercised. Based on this authority, in Fall 2016, the NFIP ran an
administrative reinsurance test and identified three large markets to work with. NFIP used a
broker to help facilitate the process to ensure legal compliance as well as to ensure that the
markets had confidence in the success of the untested instruments that NFIP was placing in the
market.

Mr. Wright said that FEMA’s research found that the Trade Agreement Act (TAA) would apply
to its reinsurance, TAA says that the U.S. government can only engage in purchasing services
from countries that are part of the World Trade Organizations. However, this meant that the
NFIP could not engage with Bermuda (a major source of reinsurance). The NFIP was able to
work around this as the major reinsurers had subsidiaries in the United States or other TAA~
compliant countries, but NFIP nonetheless had to ensure that underwriting, modeling, treaty
execution, and claims would be done in a TAA-compliant country.

NFIP purchased reinsurance on an occurrence basis as a “cornerstone” placement. Mr. Wright
said that the NFIP intends to continue to build on this purchase, and the program is currently
analyzing how it should build out its reinsurance and utilize other instruments in the future.



A 9/11-level event (somewhere in the range of £10 billion) would be required before Pool Re
would need to draw from taxpayer money. Rather than collecting money, Pool Re has attempted
to move into a more pro-active role in mitigating terrorism losses.

The last government review of Pool Re took 12 months and focused on finances. Mr. Enoizi

said the government alleged that the £30 million per annum Pool Re was paying them was
insufficient to cover the amount of risk the government was undertaking. Pool Re responded that
any money taken from Treasury to pay insurers would ultimately take the form of a credit, and
would therefore need to be re-paid to the Treasury out of future premiums. The negotiation
resulted in a far larger annual payment to the government (approximately £150 million per
annum). In return, Pool Re was able to negotiate modernization mechanisms that allows Pool Re
to act as a more proactive entity.

Turning to counterterrorism actions being undertaken by the British government and Pool Re,
Mr. Enoizi noted that British government is looking to address democratic deficits in countries
such as Egypt and Tunisia, and has asked whether a risk pooling mechanism should exist in
countries where the U.K. has interests Mr. Enoizi suggested that a better option would be
developing a private market, perhaps through a conduit similar to Pool Re. To this end, Pool Re
has invited private insurers into meetings with the government to have discussion about
developing terrorism insurance markets (including mitigation measures) in countries that would
not otherwise have access to coverage for terrorism risk. In addition, Pool Re has partnered with
the government’s Office of Security and Counterterrorism to advise on risk mitigation, and Pool
Re now offers a 2 percent premium discount for businesses operating in crowded spaces that
comply with the measures recommended by the Office. Mr. Enoizi noted that the businesses
able to meet the criteria for this discount comprise a relatively small part of the market, and
accordingly Pool Re is working to roll out a self-certifying internet platform for smaller
businesses. Businesses in this category who certify that they have performed government
accredited actions will receive a larger discount (5 percent). Pool Re also seconded an individual
to the U.K. Home Office, and this individual wrote an insurance section for the U.K.’s
counterterrorism strategy which focused on involvement of the private market and resilience
building. Pool Re has also looked at the resilience of buildings, and recently examined how to
protect buildings from drone attacks.

Mr. Enoizi noted that Pool Re uses a flexible pricing model, and premiums change to reflect risk.
For example, Pool Re knew it was likely not charging enough in London, and therefore has
pushed prices up over time. However, it also recognized that it has likely been charging too
much in provincial areas, and therefore has decreased prices to increase take-up rates. Pool Re
has also partnered with academia to understand terrorism risk pricing, including pricing for cyber
and NBCR risk, and Pool Re is currently sponsoring a Professor of Terrorism Risk Management
and Resilience at Cranfield University. Mr. Enoizi emphasized that the pricing mechanisms
developed through these collaborations all have a mitigation component, including an obligation
or incentive for the insured to access the cover.

Mr. Enoizi said that Pool Re is aware of the coverage gap that exists with cyberterrorism — it is
possible to cause physical damage via cyber and Pool Re wants to close this gap. He noted that
in the United Kingdom there is a period during which Pool Re is not able to communicate with


He added that if a large event occurred, Pool Re would be required to raise rates for all
policyholders to ensure that no insurers went insolvent. Mr. Kunreuther stated that for low
probability events, a decision must be made about what to do if people do not purchase insurance
(or go undetected when they are required to have insurance, but they cancel their policy). Should
people be required to purchase insurance because it is a societal problem? Should be people
entitled to protection if they live in high hazard areas? He noted that the requirements can be
placed in the private sector — for example individuals who take out mortgages are required to
have homeowners’ insurance. Mr. Kunreuther stated that his work has advocated for an “all
hazards” policy which would include all risks (such as flood, earthquake, etc.), but a system
which also has a role for the public sector in handling catastrophic risks, mitigation, and issues of
fairness. A question still exists of how this system would provide disaster relief an individual
who lives in a high hazard area but may not have coverage (i.e. because they are not a
homeowner). With respect to who should pay for losses, Mr. Kunreuther stated that this is an
open question and the Wharton Risk Center has not explicitly addressed this issue except to say
there are different ways of dealing with it. Uniform rates suggest that everyone is responsible for
payment, while risk-based rates take the position that individuals in high-risk areas should be
responsible (although this creates questions about affordability and fairness which may need to
be addressed through public sector involvement through vouchers or tax credits). Mr. Wright
stated that the NFIP faces these issues, and the question of who should pay after a loss becomes a
very difficult conversation. He added that part of the reason that the NFIP still has a debt of
$24.6 billion is because it has not found an answer to this question, and in the interim it takes
advantage of the low-interest rates to just pay interest on the NFIP’s debt.

Mr. Sapnar asked Mr. Wright to provide any lessons learned about the process of entering the
private market. Mr. Wright stated that NFIP spent too much time (approximately three years)
studying the issue after making a public commitment to purchase reinsurance, due to a lack of
political will. Mr. Kunreuther added that NFIP is a valuable program, but the involvement of the
private market creates the potential problem of “cherry picking” where the federal program will
end up paying for all of the high risk premiums, and end up in more debt than it was before. As
a result, one of the issues that needs to be looked at is the structure of how the private sector is
involved. Mr. Wright noted that while these may be good questions to ask, when Congress is
making a decision about the structure of a program, they are considering different criteria than a
private market.

In response to a question from Mr. Ryan, Mr. Enoizi confirmed that Pool Re’s market retention
is £150 million, which is apportioned among the members of the pool based on the terrorism
premium that they cede to the pool. Mr. Ryan noted that Mr. Enoizi had talked about giving
insurers more “skin in the game” but stated that his understanding was that insurers were
collecting premium and giving 50% to Pool Re, 50% to the government, and then recouping 25%
of the profit. Mr. Enoizi confirmed that this understanding was correct, and added that up until
two years ago, the retention was £100 million (and it had remained at that level for about 15
years), and they are now pushing that retention up. He stated that the 25% profit recoupment
resulted from negotiations with the U.K. Treasury two years ago, and its purpose was to
substantially increase market retention and redistribute the premium so it was not all ceded to
Pool Re, but rather kept with the insurer (which in turn enabled the insurer to keep more of the
risk). Mr. Ryan asked whether this caused insurers to recoup more premium than their exposure


New Business

Chairwoman Peters confirmed that there was no new business to discuss and stated the
Committee would re-convene at its next meeting on July 28, 2017.

Chairwoman Peters adjourned the meeting at 12:14 pm.

Thereby certify these minutes of the June 9, 2017 Advisory Committee on Risk Sharing
Mechanisms public meeting are true and correct to the best of my knowledge.

by

Ay, fe
the Lbilhe a
Wendy Peterg//ACRSM Chair



Mr. Enoizi stated that Pool Re was designed to be temporary, however it would be extremely
difficult to get rid of it because it covers nuclear, chemical, biological, and radiological (NBCR)
risks (which are difficult for the private market to insure). Pool Re does not go through a
renewal process, but it does have a review every five years. Pool Re currently has five active
claim notifications arising from the events arising at Westminster on March 22, 2017 and
Manchester on May 22, 2017.

Mr. Enoizi stated that the current economics of Pool Re are significantly different than they were
prior to the last review, which occurred three years ago. Pool Re is now permitted to buy
commercial retrocession, with the intent of bringing the private market back into writing
terrorism insurance. Program changes occurred during the last review because the private
market is more willing to participate than it was in 1993, the government is limited by austerity
and fiscal constraints, and the terrorist threat has changed significantly.

Pool Re is a pre-funded model, and Pool Re has collected £6.25 billion in premiums to date.
Pool Re calculates the premium and tells insurers what to charge; insurers then cede all risk to
Pool Re (which in turn cedes a portion to the government). Mr. Enoizi stated that the member
apathy this creates is one of the program weaknesses that Poo! Re is seeking to address. Asa
result, each year Pool Re is pushing the market retention amount higher so insurers have more
“skin in the game.”

Mr. Enoizi stated that Pool Re was able to purchase approximately £2 billion in commercial
reinsurance with an A- rating or better, based on the price it was willing to pay. Each year, Pool
Re has purchased marginally more reinsurance to ensure that they are buying the maximum
amount possible, Mr. Enoizi stated that he believes NBCR risk dampened their ability to obtain
additional reinsurance. Pool Re is hoping to add cyber coverage in the future, however Mr.
Enoizi stated that he was told that Pool Re will be unable to obtain this level of reinsurance
cover. However, he did acknowledge that it was an achievement for the purchase of reinsurance
to reintroduce terrorism coverage in the private market in the United Kingdom for the first time
in 23 years. Pool Re is also examining the possibility of purchasing insurance-linked securities
(ILS), and the British government has introduced legislation to make purchase of a terrorism
catastrophic bond possible.

Pool Re’s reinsurance was initially purchased for Fire & Explosion, but was then changed to
“All-Risks” with two exclusions for war and cyber coverage. NBCR coverage is no longer
excluded from Pool Re’s reinsurance. The inclusion of NBCR increases the probable maximum
loss amounts from single digit billions (for conventional losses) to tens of billions (for non-
conventional losses), which Mr. Enoizi said makes it difficult to imagine eliminating Pool Re.

Mr. Enoizi said that Pool Re was a fantastic model for the 20 century; it now needs to evolve to
be a fantastic model for the 21" century. He said Pool Re is aware it is a good model but it is not
a perfect model, and they are trying to improve by introducing more private market capacity.
This will enable Pool Re to shift from its original structure as a “first-dollar” insurer to a
catastrophe reinsurer. -


Introduction

Deputy Director Seitz welcomed all attendees to the meeting, and stated the meeting would focus
on best practices and lessons learned from alternative risk-sharing mechanisms employed in
other countries or other catastrophic loss exposures. He thanked the Committee and presenters
for attending and noted that John Seo was unable to attend the meeting, but Adam Schwartz of
Fermat Capital was attending as his proxy. He also announced that Brian Secrett from Lloyd’s
joined the Committee but was unable to attend the meeting.

Chairwoman Peters stated that the Committee would hear three presenters, followed by a short
update from Richard Ifft of the Federal Insurance Office regarding the recently completed
Terrorism Risk Insurance Program (TRIP) data call.

Mr. Sapnar, the Subcommittee chair, stated that the presenters were selected to provide a broad
representation of the types of risk. programs that are in existence. He added that rather than
having an individual Q&A session afier each presenter, the Committee would instead hold a
panel discussion to facilitate additional commentary and interaction among the presenters.

Presentation by Pool Re!

Mr. Sapnar introduced Julian Enoizi, CEO of Pool Re, a government-backed terrorism reinsurer
operating as a public-private partnership in the United Kingdom. Pool Re currently writes over
$2 trillion of exposure in commercial property terrorism risk, and has paid over $600 million in
claims. Mr. Enoizi has served as the CEO of Pool Re since 2013. He started his career as a
lawyer practicing in London, Milan, and Brussels, and has held prominent positions with insurers
AIG, Chubb, and Argo. Prior to joining Pool Re, Mr. Enoizi served as CEO for a private equity
startup at Lloyds’. Mr. Enoizi has spoken at conferences worldwide, and sits on the advisory
board of the OECD International Network on the Management of Catastrophes. Mr. Enoizi and
Pool Re were also instrumental in the creation of the International Forum of Terrorism Risk
Tnsurance Pools, which is comprised of 14 nations. Mr. Sapnar stated that Mr. Enoizi would be
speaking about Pool Re’s operations and other terrorism risk frameworks around the world.

Mr. Enoizi begin by providing some background on Pool Re, which was established in 1993 due
to an inability of businesses to obtain reasonable commercial property coverage for terrorist
attacks. Pool Re operates at no cost to taxpayers as a private industry mutual supported by a
Government guarantee, with amounts repayable to the Government in the event of use. To date,
Pool Re has dealt with 13 certified claim events, the largest being the Bishopsgate Bombing in
London which occurred in 1993. The payout for that event was £262 million and the same event
today would cause over £1 billion in damage due to increased property density and values.
Although Pool Re was originally set up with a focus on London risks, over time it has spread
over the entire country. Governance of Pool Re occurs via a Board of Directors comprised
principally of insurance industry representatives. It essentially operates as a private company
with a public policy objective.

+ Mr, Enoizi’s presentation is available at
https:/Avww.treasury. gov/initiatives/fio/acrsm/Documents/ACRSM _ Presentation By Pool Re.pdf.



Chairwoman Peters noted that there is an increased focus in the insurance industry on analytics,
from a determinative perspective, an aggregation perspective, and potentially a probabilistic
perspective. How much will these analytics have an impact on risk capital? Mr, Enoizi said that
deterministic analytics have improved a great deal, but on the probabilistic side there are still
issues. It is nonetheless important to work on improving probabilistic analytics. He said that
Pool Re has looked into developing heat maps of events to determine where it is more likely that
a terrorist attack will occur, and then incorporating this relative risk into pricing. Mr. Kunreuther
added that the existence of catastrophic and reinsurance protections encourages businesses to
purchase policies. He stated that one of the benefits of TRIA is that federal protection is
provided despite an estimate of probability, with the expectation that 140 percent of the
protection will be charged back at a future date. He said this system works because it is difficult
to charge a premium when you cannot determine the probability of an event occurring. Mr.
Wright stated that from a pricing perspective, having data is important, yet he has not seen data
emerge that has had an impact on consumer action. He added that the United States has more
flood data available than any other country, but even if a consumer is shown this data in a variety
of ways, there is no impact on behavior. The consumer has an expectation that someone else
will pay for the loss even if they do not purchase insurance. Mr. Wright stated that pricing
signals do affect consumer behavior, therefore having sufficient data to inform the price is
beneficial, though it remains insufficient because consumers use data to reinforce their pre-
existing opinion that they do not need to purchase insurance. Mr. Kunreuther added that
insurance premiums should reflect risk (even if the premium is not actually charged) so that
policyholders are able to understand the risk and can decide whether they want to take action or
mitigate the risk. He stated that he is on the FEMA/TEMA committee, which has pushed very
hard to do this, but acknowledged this is possible with respect to flood risk in a way that it is not
possible for terrorism risk due to the lack of information available about probability.
Chairwoman Peters responded that there is a difficulty in assessing whether rates for terrorism
risk are truly reflective of the risk and aggregation.

Mr. Hendrick asked the panel whether they had done any research on the differences between
acts of fortuity (e.g., weather, forest fire, flooding) and acts done by individuals deliberately
trying to cause damage (e.g., terrorism, cyber attacks). He questioned how you determine the
appropriate risk level when the causative agent is someone is trying to cause damage. Mr.
Kunreuther concurred that it is difficult to do so, particularly because a terrorist may react to any
mitigation actions that you take, however there are mitigation measures that can be taken to
reduce damage. In terms of the risk of an event occurring, it is much harder to estimate an act
initiated by a human because you don’t have the scientific data that you would for flooding or an
earthquake. He also noted that there is an added risk with human-caused events because as a
policyholder, you could take the proper steps for mitigation, but still be affected if a neighboring
building is attacked. Mr. Enoizi noted that there is some knowledge about the types of risks that
the market will accept. For example, although the private market may not write for risks such as
NBCR or cyber, it will write for small or medium-sized risks in the provincial towns of England.
Therefore, Pool Re believes it is important to find a way to let the market write these risks, and
push the catastrophic risks to the government. Mr. Enoizi noted that the key is to finding this
balance of which risks the market will accept. He added that it is impossible to know whether
the pricing Pool Re uses is right until an event actually occurs, but noted that he has the ability to



(because the money they were receiving back was greater than the £150 million retention). Mr.
Enoizi responded that it was not, and confirmed that the insurers have net exposure that is greater
than the premium they are collecting, however he noted that many of these insurers have far
greater retentions in other areas (like natural catastrophe) so he can foresee the market retention
easily be raised to £500 million in the near future, and even more in the longer-term. The
intention is ultimately to turn Pool Re into a true catastrophe program where insurers hold a
greater amount of ground-up losses. Mr. Ryan asked whether an insurer’s expected recoupment
should be line with their exposure from an actuarial perspective, and Mr. Enoizi stated that it
would be in an ideal world, but at the moment this is not the case. Mr. Ryan followed up by
asking whether Pool Re risked insurers not participating if they were not receiving recoupment in
line with their exposure. Mr. Enoizi said this may be the case, but if it happened the result would
be that the insurer would begin to write insurance coverage in the private market, which is not a
bad thing.

Mr. Hendrick asked Mr. Enoizi for an estimate of the size of the private terrorism insurance
market in the United Kingdom. Mr. Enoizi stated that 90% of the market cedes to Pool Re and a
10% private standalone market.

Mr. Hendrick asked Mr. Kunreuther whether fairness is a more appropriate factor when looking
at personal lines of insurance, compared to commercial lines that generally protect companies
and corporations, Mr. Kunreuther said it generally is more appropriate when discussing personal
lines of insurance, however in the case of terrorism, small businesses are the ones indicating that
they cannot afford coverage, they don’t want to purchase it, or that they will be “rescued” if they
go under after an event. Therefore, affordability and fairness is still a possible discussion from
the perspective of looking at small businesses.

Update on Terrorism Risk Insurance Program

Mr. Ifft stated that Treasury conducted its first mandatory data call as required under the 2015
Reauthorization Act. The first phase of this data call was completed in May 2017, and in this
phase insurers were required to submit information related to group affiliations, written policies,
direct earned premiums by jurisdiction, exposure bases by jurisdiction, and reinsurance
programs. Based on this information, Treasury is analyzing how small insurers are impacted by
TRIA, and will be issuing a report which will be made public and distributed to the Committee.
Mr. [fft stated that Treasury received a large amount of information from the data call, and
believes that it received responses from a very high percentage of insurers (by premiums) in the
domestic licensed market. In addition, Treasury received substantial data from captive insurers
and alien surplus insurers, which Treasury will also continue to analyze. Mr. Ifft stated that
since 2017 was the first year the data call was mandatory, and because the focus of this year’s
mandatory report to Congress was on small insurers, the due date was bifurcated and all insurers
except small insurers are required to submit additional information no later than October 1, 2017
if they did not submit complete templates by May 15. Mr. Ifft stated that he hoped to have more
information available about the data call for the October 2017 ACRSM meeting.