Today, the complex set of criteria and rules, sometimes referred to by the acronym ESG or green finance, permeates economic and financial life, and the insurance industry is clearly not immune to its influence. Out of the three pillars of the ESG framework (environmental impacts, social issues and corporate governance), this paper focuses on the issue of environmental impact management from the perspective of the insurance industry, with a particular reference to the controversies and difficulties encountered in implementing the relevant ESG directive.
How are insurers performing in the area of environmental responsibility?
This is particularly timely given that Insure Our Future, a global movement of non-governmental organisations, has recently published, for the sixth year, its annual assessment for 2022 (2022 SCORECARD on Insurance, Fossil Fuels and the Climate Emergency) of the 30 leading insurers and reinsurers they surveyed last year on their policies and efforts to reduce their environmental impact, or lack of one, regarding the fossil fuel industries and their clients. The report, which can be considered representative, seeks to provide a convincing illustration of the insurance industry’s responsibility in the area of environmental responsibility, its respective risk management and investment policies, and lists and evaluates the leading insurers and those that still seem to attach greater importance to profits. While the report's conclusions are clearly subjective and its findings are consistent with each issuer’s values and stated objectives of ceasing to insure coal, oil and gas projects, its factuality and consistency of approach cannot be disputed.
There is currently little theoretical debate that reducing emissions and therefore global warming is in everyone’s interest, which is evident in the communication rhetoric of almost every company, regardless of industry. However, in many cases this is not reflected in practice, as the report notes for insurance companies. Due to their specific characteristics, insurers are involved in two ways: first, through their risk-taking policies they can influence the activities of companies that are considered to be polluting; and, second, as major institutional investors insurers can choose carefully which environmentally conscious companies they prefer to invest in, while excluding the less sensitive companies from their investment portfolio. In addition, marketing and reputational benefits can also be a consideration, as well as the increasingly ESG-oriented assessment of credit rating agencies.
ESG: risk or business benefit for insurers?
Non-life insurers are particularly relevant from an environmental perspective, as the insurance policy and the risk assumed are directly linked to environmental sustainability factors, while the same is less true for life insurance. On the investment side, this direct relationship is no longer evident, as non-life insurers are typically interested in shorter-term investments and do not establish a direct link between their insurance portfolio and their investment activity. In this respect, a property and liability insurer, as an institutional investor, shares the general view of investors that ESG is important, but only as long as it does not lead to a significantly adverse affect on the expected returns.
Several global surveys have shown that most investors are actively pursuing ESG compliance but are only willing to tolerate a few percent drop in returns to achieve these goals. This conflict between investor attitudes and sustainability requirements can also be seen in the insurance sector in general, although insurers are increasingly incorporating the Principles for Responsible Investments (GRI) and Principles for Sustainable Insurance (PSI) initiatives into their corporate culture and regulatory frameworks in support of climate objectives. Put simply, for many insurers, ESG currently represents more of a risk than an opportunity for business benefit.
Changes of securing coal, oil and gas projects
The climate protection aspect of ESG is even more prominent in the insurers’ underwriting policies, as a fundamental feature of their business. The clear objective of the Insure Our Future movement is to eliminate the possibility of insuring the activities of companies involved in conventional coal, oil and gas extraction, which can have a significant disincentive effect, even in the short term, especially if the existence of adequate insurance cover is a legal prerequisite to carry out the activity.
The reasons are also obvious for non-life insurers: the increasing number and severity of natural disasters linked to climate change are a clear risk and a significant financial loss not only for society, but also for insurers. According to the data, 2020 was the warmest year on record in Europe, and the extreme weather brought a spate of severe natural disasters, causing global losses of around USD 210 billion (of which Munich Re reinsurer estimates that only USD 82 billion was insured). In the light of empirical evidence, it is now also well established that even one degree of warming can trigger recurrent and extreme heat waves, droughts, widespread forest fires and extreme floods.
The “green insurers” have greater social and economic acceptance
This requires property insurers to manage their exposure to environmental risks appropriately, as this will have a direct impact, through claims, on their business results. This largely contributes to the fact that more than 40 large insurance companies already have a coal exit strategy and today new coal power plants, except for those in China, are virtually uninsurable or very difficult to insure. However, despite their commitments to achieve net-zero emissions by 2050, only 13 insurers have begun to substantially limit their coverage of conventional oil and gas projects, and many continue to commit to expanding their oil and gas industry.
Similarly, the question of premium income should also be addressed. The tension between short-term profitability goals and the enforcement of sustainable risk-taking policies strongly motivates insurers to constantly balance the socially acceptable risk appetite with shareholders’ profit expectations in a highly competitive market environment. In this context, insurers need to consider to what extent and over what time horizon the loss of premium income due to restrictions could be compensated by the financial benefits that could result from greater social and economic acceptance of “green insurers”. Some analysts believe that such benefits could be measured in billions of dollars, but this view should not yet be considered as a fact-based assumption.
The situation is further aggrevated by the global COVID pandemic, which is winding down but still risks returning, and the energy crisis in the wake of the Ukraine conflict. Both events are pushing many countries towards the increased use of available fossil fuels, including nuclear power. In consequence, ESG compliance may drop down the list of business priorities for insurers and greenwashing solutions may also gain more ground.
Fossil fuel companies, which are considered to be environmentally damaging, are traditionally well-capitalised market players and, accordingly, significant profits could be expected from insuring them. In fact, the UN-led Net-Zero Insurance Alliance (NZIA) of 29 leading insurers, representing more than 15% of global insurance premium income, has made strong commitments to fully decarbonise their underwriting portfolios by 2050. However, the aforementioned macroeconomic reasons and the vital interest of the 3-4 leading global insurers in securing oil and gas expansion, slow down the process and render the scheduled timelines fragile.
European insurers are leading the way in reducing carbon exposure
The fossil fuel insurance market is highly concentrated among ten insurers, which control around 70% of the global oil and gas exposure. Survey data shows that less than half of the 30 insurers surveyed currently apply restrictions on oil and gas, and those policies that do are mostly imposing tighter restrictions on oil sands and Arctic activities. Only three major insurers in the world (AXA, Generali, and Suncorp) have made a clear commitment not to insure new oil and gas projects in the future. From an ESG perspective, the picture is somewhat more positive for coal: since 2017, more than 30 insurers have discontinued their insurance coverage for the coal industry and nearly 50% of the global reinsurance market is now unwilling to reinsure this industry.
These restrictive measures are taken by insurers in the framework of a “divestment policy”, which is effectively self-regulation with sanctioning features to achieve the declared objectives. Generally speaking, European insurers are pioneering the reduction of carbon exposure and Lloyd’s of London is the last major European insurer willing to cover new coal projects for years to come, as well as still being interested in tar sands and Arctic extraction projects.
Japanese and Korean insurers are beginning to follow the European example, and the dominant insurers in in Asia, like Japan’s Tokio Marine and South Korea’s Samsung Fire and Marine, have stopped insuring new coal projects. Most US insurers are still considered to be the frontrunners, such as AIG, Travelers and W.R. Berkeley, by placing few restrictions on their insurance activities for coal mining.
In summary, the implementation of ESG environmental and climate principles in the insurance industry is a challenging and far from smooth process. The cumulative impact of recurring environmental disasters and economic crises is partly an incentive to progress but can also act as a barrier to the planned achievement of ESG targets as currently outlined and scheduled.
