Pandemic insurance and government as insurer of last resort

Chris Smith

During the Covid-19 pandemic, the Government has stepped in to provide emergency support for workers and businesses. This is one example of government acting as ‘insurer of last resort’. When acting in this way, governments assume risks and costs that typically cannot be adequately insured by the private sector.

This blog looks at how UK governments have acted as insurer of last resort during the current coronavirus outbreak and in other areas. It also briefly describes private sector insurance coverage, both in standard policies and in one example of pandemic-specific cover.

Government’s role over time

HM Treasury (HMT) has described how government has expanded its backstop insurance role over time. Historically, HMT said, it was limited to providing military defence and “very basic health and welfare provision”. Coverage increased with the spread of democracy and the welfare state. By the time of this year’s spring budget, HMT stated that the Government was insurer of last resort in a “wide range of markets” including flood risk, terrorist attacks, travel protection and support for lending to small businesses.

How much money is involved?

The role of insurer of last resort means that government has significant contingent liabilities on its balance sheet. These are costs that are uncertain but that may lead to future expenditure if specific events occur. In the 2017/18 UK whole of government accounts, total contingent liabilities stood at £193 billion, although not all of these were in the capacity of insurer of last resort. This was, of course, before the actions taken in response to the coronavirus (see below).

Government review of contingent liabilities

In the spring budget, the Government announced proposals to improve the management of its contingent liabilities. The proposals included improving risk management expertise, seeking compensation for government insurance coverage and improving risk sharing with the private sector. It said that it would take forward the proposals and integrate them into the next spending review, which was due to report in July 2020. However, reports now suggest that the review has been delayed.

Coronavirus response

Since delivering the budget, the Government has significantly expanded its last resort support in response to the coronavirus. There are several forms of assistance. These include:

direct financial support (for example the job retention scheme, small business cash grants and enhanced welfare provision);
loans and loan guarantees; and
tax reductions and deferrals (for example for business rates, VAT and self-assessment income tax).

Loan guarantees are likely to create further contingent liabilities. The Institute for Fiscal Studies (IFS) has said that the long-term impact of the recent loan package on the public finances is “highly uncertain”. Other elements of the Government’s overall support for coronavirus-impacted individuals and businesses (direct financial support and tax reductions and deferrals) would not be contingent liabilities. However, they can still be considered as actions taken as insurer of last resort. The total value of overall support is unknown: some elements amount to around £39 billion, but this excludes the coronavirus job retention scheme and loan guarantees.

Private insurance

The Association of British Insurers (ABI) has provided guidance on how a range of private sector policies may be affected by coronavirus, including travel, critical illness and business insurance. It estimated that travel insurance policies would pay out at least £275 million because of the virus. However, it stated that the vast majority of standard commercial insurance policies would not provide cover for business interruption. In evidence to the House of Commons Treasury Committee, Charlie Bean of the Office for Budget Responsibility argued that this was a reason for the government to act as insurer of last resort.

Julian Boffa, an insurance regulatory advisor, said that insurers were also expected to face claims from policies such as third party liability, income protection and key personnel insurance.

Specific pandemic cover

Insurance adviser Willis Towers Watson said that pandemics occur rarely and unpredictably. They also lead to a potentially very high financial loss if they do arise. It is suggested that these characteristics make them unsuitable for conventional insurance cover.

However, in 2017 the World Bank issued the first ‘catastrophe (cat) bond’ linked to pandemics. Risk transfer analyst Artemis described cat bonds as insurance that operates through financial markets. It said that investors pay money to buy a bond. As long as there is no trigger event, investors receive interest and at maturity the purchase price (principal) is returned. If there is a specified event, they may lose some or all of their interest and/or principal.

Artemis stated that the World Bank bond was worth $325 million and was designed to support its response to pandemics in the developing world. Prior to the coronavirus outbreak, the bond’s payout criteria had been criticised for being too strict. It had been scheduled to mature in July this year. However, Artemis suggests it is now expected to pay out, with investors facing a loss.

Nevertheless, insurers have said that coronavirus may present opportunities for the industry, and that data from the outbreak may help in providing pandemic cover in the future.