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Japan’s Earthquake Poses Unique Challenges to Nation’s Insurance System

CHICAGO—The Great Tohoku Earthquake took an enormous toll on Japan in March, but the country’s insurance system weathered the disaster successfully, according to a presentation by a delegation of Japanese actuaries at the CAS Annual Meeting in November. The facts are well-known: a magnitude 9.0 earthquake—the fourth largest worldwide since 1900—struck just off Japan, sending a tsunami against the country’s east coast. More than 15,000 died, economic losses topped $200 billion, and insurance losses passed $30 billion. But the packed session room got a somber reminder of the enormity of the catastrophe as Daisuke Nishihara, an assistant vice president at Swiss Re’s Japan branch, narrated a video of a coastal area a month after the quake and tsunami.   

In Japan, earthquakes are frequent, and the country has extensive protections and warning systems, but the earthquake and the tsunami were much worse than experts believed possible. Forecasters thought the worst quake off Japan’s east coast would hit magnitude 8.2 and shake two seismic zones along the fault line. Instead, the quake registered 9.0 and shook six zones, so the aftermath was worse than imagined. The tsunami killed thousands and destroyed towns. Liquefaction—the shaking of soil until it turns to a soupy mud—damaged more structures than expected. Manufacturers worldwide suffered as their Japanese suppliers were shut down. And damage to the Fukushima nuclear plant created a 30-kilometer-wide “no-go” zone and caused enormous power shortages.

The frequency of quakes makes the risk difficult to insure, said Yuki Nii, assistant manager at National Mutual Insurance Federation of Agricultural Cooperatives. Homeowners can buy separate residential earthquake coverage; otherwise, most personal lines exclude earthquake. About half of all homeowner policyholders buy the cover.

Residential earthquake cover was launched in 1966, through a joint operation between the government and Japanese companies. Rates are required to be as low as possible, Mr. Nii said. Claimants are paid according to a schedule. Each loss is classified as a partial loss, half loss, or total loss. Partial losses receive five percent of the earthquake insured amount of their property, half losses receive half, and total losses receive 100 percent. Japan has another class of insurers—cooperatives. Similar to mutual insurers in the U.S., they are established voluntarily by a group of people who wish to improve their lives. In cooperatives, earthquake is covered up to half the amount covered for fire insurance.

Much of the risk is borne by the Japan Earthquake Reinsurance Company (JER). Private insurers, JER, and the government share the risk, with the government’s share growing as the scale of losses grows. If there are no earthquakes in a year, money collects in a reserve. Before the Tohoku earthquake, the fund stood at about $30 billion.

The earthquake presented financial and logistic challenges to the insurance industry, said Masato Tomihari, a deputy manager at Mitsui Sumitomo Insurance. Insurers have received about one million claims, he said, more than four-fifths are residential insurance claims. Staff was redeployed to handle the influx. For example, although Mr. Tomihari’s staff works on product development, several of his colleagues were sent to survey damage. For the first time, some claims were settled without an adjuster’s survey, he said. Settlement was based on aerial and satellite photos. As of April, residential earthquake losses totaled $12 billion. Other non-life coverages totaled $7.5 billion gross of reinsurance and $2.5 billion net. Cooperative claims totaled $11 billion, and another $2 billion came from life insurance claims.

Since the earthquake, demand for auto insurance has risen. Typically, standard auto insurance doesn’t cover earthquake damage. Responding to the demand will be a challenge for insurers, Mr. Nii said, since insurers don’t have a great desire to expand coverage.

With regard to the residential earthquake insurance, the losses were covered by the fund that the government and the insurers had reserved. As a consequence, half of the fund was depleted by the quake and tsunami. For other earthquake insurance, Japanese insurers have their own catastrophe reserves on their balance sheets. As catastrophe claims are paid, the reserve is drawn down. In addition, most Japanese insurers had purchased significant earthquake reinsurance protections, which alleviated insurers’ economic loss and kept the industry financially strong. The solvency margin of the largest insurers—roughly equivalent to the risk-based capital measurement U.S. insurers rely on—will fall a bit, but remain more than two and a half times what regulators require.

Still, the disaster showed some weaknesses in how insurers estimate the financial impact of disasters. Most insurers based loss estimates on the actual distribution of prior disasters, and didn’t model tsunamis. They didn’t anticipate the unprecedented scale of the Tohoku event.

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