Financial Strategies for Managing the Economic Impacts of Natural Disasters1 11 Financing Mechanisms for Pro-active Disaster Risk Management for the Public Sector Session 2 World Bank Institute International Institute of Applied System Analysis J. L. Bayer and R. Mechler

2Financial Strategies for Managing the Economic Impacts of Natural Disasters Honduras After Hurricane Mitch Fall 1998 Source: World Bank 2002

3Financial Strategies for Managing the Economic Impacts of Natural Disasters Transportation Bottlenecks After Mitch Before After Source: World Bank 1999

4Financial Strategies for Managing the Economic Impacts of Natural Disasters Sources: World Bank 2002 ODA Drives Recovery in Honduras After Mitch

5Financial Strategies for Managing the Economic Impacts of Natural Disasters Risk Control Risk Identification and Assessment Catastrophe Risk Mitigation Risk Financing Residual Risk Cycle Pre-event Disaster Risk Management Cycle

6Financial Strategies for Managing the Economic Impacts of Natural Disasters Hazard Module Exposure Module Vulnerability Module Damage Module Loss Module Components of a Probabilistic `Catastrophe´ Risk Model

7Financial Strategies for Managing the Economic Impacts of Natural Disasters Risk Identification and Assessment

8Financial Strategies for Managing the Economic Impacts of Natural Disasters Risk Control Mitigation and Risk Financing Incentives financialinstruments Natural hazard Exposure Physical vulnerability damage financial vulnerability financialinstruments loss Mitigation

9Financial Strategies for Managing the Economic Impacts of Natural Disasters How Does the Government Pay for Relief and Reconstruction? Post-disaster  Budget & loan diversions  Taxes  Borrowing (domestic and international)  Donor assistance Pre-disaster  Catastrophe reserve fund  Insurance  Catastrophe bonds  Contingent credit

10Financial Strategies for Managing the Economic Impacts of Natural Disasters Source: World Bank India: Financing Gap After Gujarat Earthquake 2001

11Financial Strategies for Managing the Economic Impacts of Natural Disasters Risk Identification and Assessment Assessment of Financing Gap

12Financial Strategies for Managing the Economic Impacts of Natural Disasters + - Capital Accumulation Fund Payment a) Reserve Fund + - Credit Payment Debt RepaymentAdministrative Costs b) Contingent Credit + - Insurance Payment Premium c) Insurance Flow of Funds from Three Instruments Ex-ante Instruments for Risk Financing

13Financial Strategies for Managing the Economic Impacts of Natural Disasters Should Governments Insure? Three questions should be answered to determine whether a government should insure its infrastructure and other post-disaster liabilities:  Is there a potential financing gap?  What are the costs of insurance and other pre-disaster financial instruments?  What are the benefits of insurance and other pre-disaster financial instruments?

14Financial Strategies for Managing the Economic Impacts of Natural Disasters Costs and Benefits of Different Risk Financing Options

15Financial Strategies for Managing the Economic Impacts of Natural Disasters The Economic Growth-stability Tradeoff

16Financial Strategies for Managing the Economic Impacts of Natural Disasters Important Messages Building a culture of prevention is not easy. While the costs of prevention have to be paid in the present, its benefits lie in a distant future (Annan 1999).  Costs are deterministic, benefits are not, probabilistic context  Natural disasters are not average events, need to account properly for low-probability, high consequence haracteristics.