French insurers to face increased drought claims, a credit negative: Moody’s

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French property and casualty (P&C) insurers are currently facing credit negative increase in drought losses this year amid forecasts of prolonged warm and dry weather.

On 24th April, the French meteorological service Meteo France said it saw a 50% chance of above-average temperatures in the summer of 2023. It also said the winter of 2022-23 had been exceptionally dry, with no significant rainfall in France for 31 consecutive days between January and February. The forecast, which comes after France’s hottest and second driest year on record in 2022, suggests that a recent sharp increase in drought-related losses is set to continue.

According to France Assureurs, the French insurance industry association, drought-related insured losses reached €2.8 billion last year. This compared with an annual average of just €485 million before 2016.

Climate scientists from the Bureau de Recherches Géologiques et Minières (BRGM, the French geological survey) have forecasted that drought could cause €43 billion of insured losses over the 2020-2050 period, three times the amount between 1989 and 2019.

Moody’s Investor Services came out with a report that suggests the key drought-related risk for insurers is the shrinkage of clay soils, which can cause buildings to subsidence. Almost half of private homes in France are exposed to this risk.

In France, this damage is covered under home insurance. Most French insurers in turn reinsure this risk with the government-owned Caisse Centrale de Réassurance (CCR), typically through a treaty combining a 50% quota-share 1 and a 200% stop-loss.

Some of the other factors that come with the correlation between the onset of drought are insured losses from wildfires, water shortages affecting livestock and electricity production both in nuclear and hydropower.

According to Météo France, agricultural insurance claims related to both crop and livestock are directly linked to drought in large parts of France, particularly the southern and western regions of the country. Large parts of mainland France have exposure to droughts, Moody’s physical climate risk scores for several regions demonstrate a moderately negative credit exposure.

The report suggests that proposed legislative changes that would make it easier for policyholders to claim for drought-related damage could further increase their final claims bill. Although, proposed reforms would further inflate French insurers’ drought-related costs. These costs could rise further as a result of a proposed new law which would reduce the administrative obstacles to claiming for drought-related damage.

Currently, these claims are considered valid if they occur in a region that the government has designated as affected by drought. The process of filing a claim is also complex and subject to challenges from insurers.

The proposed reform is a response to increasingly long and severe dry periods in France. The aim of this is to relax the criteria used by the authorities to determine whether a region has been hit by drought, increasing the number of homeowners eligible to claim.

It would also make it easier for policyholders to prove that the loss they are claiming was caused by drought, and would simplify the claims process. If adopted in its current form, the law would increase insurers’ drought claims burden, negatively affecting their profitability. The National Assembly, the lower house of the French parliament, approved the current draft on 6 April on first reading by a large majority, despite a lack of support from the government. It was presented for a first reading to the French Senate on 7 April and will be debated and subject to a vote in the summer of 2023.

The Senate estimates that the measure would impose additional costs of €850 million per year on the industry. To offset these additional natural catastrophe losses, the industry would need to increase the charge included in all French motor and home insurance premiums by 12 percentage points to 24%, according to CCR. French lawmakers have however expressed their opposition to an increase in premiums, and have urged the industry to simply absorb the additional costs.

Moody’s belief is that it would be challenging for insurers to do so, and expect them to increase their prices if the law were approved in its current form.

The National Assembly is also reviewing the price of the reinsurance protection that insurers buy from CCR, following a drop in the reinsurer’s reserves because of a high claims burden in 2021 and 2022. Proposed measures include a reduction in the commissions that CCR pays to its customers.

Reinsurers typically pay back a proportion of the premiums they receive from primary insurers in the form of “ceding” commissions to acknowledge that their administrative costs are lower than those of their customers. A reduction in CCR’s ceding commissions would increase the overall cost of the reinsurance protection it provides

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