Written by Charles Lilly, an RBNZ financial systems analysis adviser, the report says a lack of granular, property-level data on hazards is the main constraint to insurance affordability.

Lilly says it’s important for insurers, central and local governments, buyers and lenders to take action to improve their understanding of natural hazards so affordability challenges can be managed proactively.

Insurance makes an important contribution to New Zealanders’ financial and economic wellbeing, by spreading the cost of adverse events across time and policyholders, says Kerry Watt, the Reserve Bank’s financial stability assessment and strategy director.

Houses and land account for most of households’ net worth. At about 96 per cent, the amount of residential insurance is high by international standards.

Premiums for residential insurance have significantly outstripped general inflation over the past decade, reflecting elevated construction cost inflation and higher reinsurance costs, as global reinsurers reassess NZ’s risk profile.

This has included pricing for seismic risks at regional and local levels becoming more prevalent over the past decade and higher premiums for properties with elevated flood risks being introduced by some insurers as data and modelling improve.

Floods and earthquakes

Watt says it’s difficult to pinpoint if and when insurers will completely withdraw cover for certain properties and/or areas or risks, although it could occur relatively quickly given that contracts are typically annual.

“The withdrawal of insurance will depend on the severity and frequency of flood events in a location, improvements over time in the understanding of flood and seismic risks, the competitive dynamics between insurers, and how risks evolve (for example, due to climate change and mitigation). Withdrawal will tend to first occur in communities where these physical risks are already well known.”

Owners of properties where natural hazard risks have already occurred through claims – and particularly repeated claims – such as those badly affected by last year’s Auckland Anniversary weekend floods and Cyclone Gabrielle, are unlikely to obtain comparable cover in the future unless there has been a substantial mitigation of known risks, Watt says.

“Even if the complete withdrawal of insurance availability in certain areas is some time away, owners of high-risk properties may find insurance increasingly unaffordable.”

Similar to overseas markets, a potential outcome of the trend towards more risk-based pricing is that insurers begin to unbundle different risks, particularly if one type of peril is a dominant factor in the unaffordability of premiums for an all-perils policy, he says.

For example, unbundling could take the form of removal of flood cover for a flood-prone property in an area with low seismic risk.

This may help to maintain insurance accessibility for other risks such as fire and EQC cover, which typically requires a policyholder to have private insurance, but it comes at the expense of leaving property owners uninsured for flood risks.

“With optional cover for some risks such as flood, property owners who need that cover the most may not be able to afford it, as the risk pool for flood risk could shrink as owners not exposed to flood risk choose to opt out of cover,” Lilly says.

Homeowners may also respond to declining insurance affordability by reducing their coverage through higher excesses and reducing sums insured, although this will leave them more exposed to a total loss event.

Climate change

Watt says insurance retreat presents a long-term challenge for the financial system.

Evidence so far suggests insurance continues to be available. Full insurance retreat is rare, even for properties exposed to high seismic and flood risks.

“Insurers’ adoption of greater risk-based pricing is a rational response to a changing operating environment, including climate change. Over time, risk-based pricing can provide a strong signal to encourage the proactive mitigation and lowering of exposure to risks, which can be beneficial for society’s overall risk management,” he says.

“It is important for all stakeholders (insurers, central and local governments, buyers and lenders) to take action now to improve their understanding of natural hazards, so that future insurance affordability challenges can be better managed.

“Central and local governments have an important role in collecting and sharing natural hazard data, setting policies for land use and coordinating adaptation plans. Improvements in data will help support insurers’ risk modelling, and thereby enhance the price signals sent by premiums for different natural hazards.”

Banks need to be conscious of the ongoing insurability of the properties against which they lend, which will require greater scrutiny in their lending decisions.

“Banks also need to pay close attention to insurance coverage given the increasing risks of underinsurance of high-risk properties over time.”

Watt says banks need to work with insurers to obtain better and more regular information on mortgaged properties’ insurance status.

While insurance affordability is under the microscope, the latest set of results indicate most insurers continue to offer insurance online for properties with high seismic and flood risks.

• For suburbs with high seismic risks, on average three quarters of insurers surveyed make insurance widely available online. However, insurer participation varies geographically, with some having withdrawn online quoting in recent years from some parts of the Wellington, Marlborough and Canterbury regions, for example.
• About six per cent of properties are assessed at high flood risk, defined in the analysis as properties where a riverine or surface water flood event is expected to occur more frequently than once every 100 years. For these properties, an average of around 20 per cent of the insurers’ quotes were assessed as including additional flood risk premiums averaging $250 or more annually (flood pricing), relative to properties in the same suburb assessed as not being subject to flood risk. This result varies by suburb, with no insurers applying flood pricing in some suburbs, and many insurers applying flood pricing in others.
• About 0.6 per cent of residential properties are subject to high flood and seismic risks. On average, more than half of the insurers offered policies with no additional flood risk premium in these areas. However, in a small proportion of sampled suburbs availability was lower, meaning that there were fewer participating insurers to choose from. Even without flood risk premiums, owners of these properties may find insurance unaffordable if a high earthquake risk premium is also charged.

Watt says banks need to be conscious of the ongoing insurability of properties they lend against, which will require more scrutiny in their lending decisions.

He says they also need to pay closer attention to insurance coverage as there is a risk that owners underinsure high-risk properties over time in the face of rising premiums.