progressed fairly significantly. Many have heard in the news this past week that there was some forecasting that was done similarly for the Haiti region. The fault system there is a strike fault system. It’s the boundary zone between the Caribbean and the North American plates. It’s quite similar in characteristics to the San Adreas fault system that runs through California.
Its behavior, in this earthquake, and what’s happening on that fault system, are very similar to the kinds of strain accumulation that we’re seeing on some of the faults in California as well. I have a couple of graphics on that.
McDONALD: At least on the residential side there’s not enough coverage or people don’t take enough advantage of earthquake coverage. I understand from the commercial side that they generally do, Sanjay, or at least most. What’s your take on the extent of people taking advantage of coverage? Do they seem to realize the severity that is reasonably possible and is that being recognized in terms of actual coverage? Are things more likely to be more extreme than most people think. If so, is that matched by appropriate financial protection?
JOHNSON: I’d like to refer to a slide I put together just to focus on some of the extreme events we could have in California. It looks at the four major fault segments that we’re very concerned about right now. They have recurrence intervals in which their time is essentially up and they are ready to go. Two are in Southern California, the very southernmost end of the San Andreas Fault system, from San Bernardino down to Mexico and from north of there up through and into the Central Valley. Then in Northern California, the Hayward Fault and the peninsula segment of the San Andreas Fault. All are very high risk faults. The kinds of earthquakes that are likely, the large ones that are likely to occur that we’re concerned with, are $100 billion economic-loss scenarios and higher than that, as much as $200 billion economic loss scenarios with insurance losses being around $30 billion and up.
So certainly the penetrations are lower in terms of take-up than they were at the time of the Northridge Earthquake, particularly on the residential side, which could create a lot of problems. Sanjay will be able to talk about our clients’ behavior around earthquake coverages.
GODHWANI: The impression we have is that most large commercial clients or medium-sized commercial clients do purchase quake insurance. They’re buying in California, they’re buying in Hawaii, Alaska, the New Madrid area and the Pacific Northwest. The buying patterns are there. The issue is: are they really estimating the actual potential loss? Our feeing is that, given the lack of frequency of events of any size, that people are underestimating. The insurance companies and buyers, the actual potential loss, if you think of the business interruption piece of it and you think about the fact that in an event they may know what the physical structure loss will be. It’s hard to think about infrastructure issues. What would that mean and how long would they be out of business without being able to function? That’s the piece that concerns us when we think about the exposure related to earthquake.
McDONALD: It’s not just the shake that’s going to cause the damage. It’s all the secondary impacts and the thing that you’ve referred to as loss amplification. Can you elaborate on that?
JOHNSON: Sure. It’s something we really began to understand after Hurricane Katrina, somewhat with 9-11 but Hurricane Katrina was really when the modeling industry began to do a better job of trying to characterize that.
There are a number of issues. The first one of the primary drivers is damage to the infrastructure and utility systems -- those long-term disruptions. But also it really depends on where the earthquake occurs, or where any event occurs, and what are the prevailing economic conditions of that area are.
What we saw in Southern California after the 1994 Northridge Earthquake was an area that was recovering from a recession. There was a quick influx of payout on the residential side that actually stimulated the economy. It sort of accelerated a recovery. One could say that the recession that was going on, the downturn in the economy that was going on in New Orleans, was only exacerbated by Hurricane Katrina.
The third piece of that whole issue is really around capacity of governance -- the leadership context -- as to where these events happen. The insurance industry and businesses can do what they need to do to prepare and be financially capable, but there’s also a policy element. Where are we going to rebuild? How are we going to rebuild? Are there going to be moratoria? Is there going to be financing for infrastructure repairs? Even though the private sector might be ready to respond, we need the public sector to be able to engage too. There’s nothing more vivid right now than an extreme of this, which is going on in Haiti, where you have really just a government that is overwhelmed and incapable of handling this kind of event.
McDONALD: That ties in with the question we received. Haiti is not a terribly well-insured region, but it sends a signal to the market. Is there any indication at this point that this is going to have any impact on capacity or pricing in this line?
GODHWANI: I don’t think so at all. In the end, an event in the U.S. that has insured losses associated with it is what’s going to change the environment. Currently surplus figures are relatively close to their highest levels after the last six months of increases. So the industry is a little naïve about the exposure and it’s probably not going to make the adjustments currently.
McDONALD: It might affect demand possibly just because it’s a flag in people’s mind as to what can really happen?
GODHWANI: That’s fair enough.
McDONALD: Those pictures are quite graphic.
GODHWANI: People may go back and reevaluate the