The Pooling Effect

1. The Pooling Effect MUNICIPAL INSURANCE ASSOCIATION of British Columbia Tom Barnes Chief Executive Officer & General Counseltbarnes@miabc.org

2. Risk Pools • Well established risk financing mechanism • Mutuals • Association programs • Not common in the public sector • Low perceived risk • Insurance readily available at a reasonable price

3. Evolution of Public Entity Liability Risk Public Entities -------- Private Entities _____ 1960 1965 1970 1975 1980 1985

4. The Liability Insurance Crisis • Insurance industry abandons public entities • Dramatic premium increases • High deductibles • Restricted coverage • Constrained availability

5. Risk pooling was one of the few options available

6. FOLI Theorem – Market Cycle Public entities: First Out Last In

7. The Result • 100,000 public entities in North America • 85% get some form of coverage from a pool • $13-17 billion in premium

8. In North America • 500 Pools • Liability • Property • Auto • Worker’s Compensation • Specialty Lines “The greatest success in intergovernmental relations.”

9. Almost before most pools could begin operation, the market cycle saw: • Crisis end • Prolonged soft market established

10. The Pooling Effect Yet pools have thrived, because of

11. The Science of the Pooling Effect Heads: Win $1,150 Tails: Lose $1,000

12. The Science of the Pooling Effect 54 participants have to get tails to create a loss ($11 per person). • In this simulation by a random number generator, the result is a collective net gain of $7,500 ($75 per person). • Individual stakes are lower, despite total stakes increasing 100 fold.

13. The Science of the Pooling Effect The tipping point is now when 540,000 people get tails, which is almost impossible with a 50/50 chance on each flip. There is a certain net gain.

14. Risk Pools apply the science of the Pooling Effect if its risks are: • Analogous • Diversified • Uncorrelated

15. The Pooling Effect is amplified in practice • Finances • Collegiality • Risk management services • Customized coverage

16. The Pooling Effect in Practice Finances Public Entities value long term cost: • Stability • Predictability more than the market cycle that can occasionally deliver lower costs.

17. The Pooling Effect in Practice Finances Pools inherently moderate the volatility of insurance costs over time • Member commitment • Capital adequacy • Cost allocation

18. The Pooling Effect in Practice Finances • The combining of uncorrelated risks always produces the pooling effect • Prudent funding results in surplus funds • Surplus funds result in • Financial return to members • Capital accrual

19. The Pooling Effect in Practice Finances • Pools cost of capital is relatively low • No capacity/ROE conflict. • Tax exempt investment accelerates accrual.

20. The Pooling Effect in Practice Finances • Capital fosters stability. • Financial returns reinforce long-term commitment.

21. The Pooling Effect in Practice Collegiality • Information and knowledge sharing • Joint initiatives • Pool resources Not viewed as giving a competitive advantage to an adversary.

22. The Pooling Effect in Practice Risk Management Services • Sector-specific knowledge and experience applied for benefit of all members • Higher risk members can’t be underwritten out of the pool • Risks themselves must be: • Identified • Monitored • Mitigated

23. The Pooling Effect in Practice Customized Coverage • Goal is to provide members the coverage they need. • Risks emerge and evolve, so must coverage • Even where there is no market to provide it

24. The Pooling Effect in Practice The smallest member has access to the resources usually available only to the largest members.

25. The Pooling Effect in Practice Reinsurance • Pool working layers • Reinsure catastrophe exposure

26. THANK YOU