Scientific uncertainty: prudent insurers will pay close attention to the scientific debates that surround the issue of global climate change.

The destructive hurricane seasons of 2004 and 2005 in the United States have left many within the insurance and reinsurance industries questioning whether the observed increases in the number of tropical storms and hurricanes in the North Atlantic might, in some way, be linked to human-induced climate change. The technically intensive nature of the policy debates that surround the issue of climate change are complex and multi-faceted. Indeed, much of the uncertainty that underlies the greenhouse debate arises, in part, from an incomplete understanding of atmospheric and climate science. Even a cursory read of the day's newspapers reveals that climatic change is likely to impact society in ways that are, perhaps, only just beginning to be understood.

Nowhere, it seems, does this sentiment ring more true than for American insurers and reinsurers. As a key instrument and enabler of loss mitigation and risk transfer, the U.S. insurance industry lies at the nexus of several crucial dimensions of the climate change problem, especially as it relates to the potential implications of climate change for society and the global economy. Having sustained record-breaking natural catastrophe losses, insurers and reinsurers are openly--and, indeed, justifiably--questioning the potential linkage between anthropogenic climate change and extreme weather, looking at the likely short-term implications for the industry, as well as the potential long-term impacts on financial performance and corporate sustainability.

Situated at the very heart of these discussions, of course, are the scientific debates that surround the issue of global climate change. Prudent insurers will pay close attention to these debates for at least three reasons. First, they will want to know the full range of informed opinion that exists as to how the Earth's climate is changing, as well as the potential consequences of such change for a broad range of possible (re)insurance-related outcomes. Second, insurers will want to take note of the balance of scientific opinion on these matters so that they can make informed choices about other (perhaps non-weather-related) risks they underwrite that could be affected by climatic change--perhaps in ways that are not yet well understood. Third, insurers also will be concerned about the accumulation of large natural catastrophe losses with potentially significant, but uncorrelated, losses such as terrorism. While the probabilities associated with such uncorrelated events are independent, the financial ability to pay claims in the wake of either type of loss is not.

Insurance in an age of global climate change is, in essence, a dual gamble. In the first instance, the gamble is one that sees insurers and reinsurers engaged in the process of making a series of bets on the potential frequency, severity and consequences of natural catastrophe events--a task that is, in itself, fraught with uncertainty. In the second instance, though, global climate change holds the potential to confound our current understanding of the causes and consequences of extreme weather events. If this portion of the dual gamble yields unfavorable outcomes for insurers, then it may signal the need for potentially drastic shifts in the way these risks are construed, assessed and managed.

The highly uncertain state of scientific knowledge concerning the potential linkage between climate change and extreme weather does not allow us to say much that is definitive or certain. And while insurers and reinsurers are well-accustomed to confronting situations that are characterized by risk and uncertainty, the issue of human-induced climate change carries with it enough ambiguity and uncertainty to generate considerable anxiety for industry stakeholders. While insurers and underwriters are often able to reach requisite levels of comfort in situations where the attendant risks can be reliably characterized and appraised, they are far less comfortable in situations where scientific uncertainty complicates a decision-making environment that is already fraught with uncertainty and complexity. Complicating matters even further is the fact that all of this plays out in an environment where it often is difficult to parse and disentangle the political rhetoric and considerations that inevitably become part of the dialogue on how the global environment should be managed.

Indeed, the science of climate change offers little in the way of clear and definitive answers to many of the most pressing issues facing public and private stakeholders who share a mutual interest in, and concern for, issues pertaining to global environmental change. In this risky environment, insurers and reinsurers must continue to strive to increase their store of intellectual capital in the face of an uncertain--but potentially serious--challenge to their capacity to protect people and property.

L. James Valverde Jr., a Best's Review contributor, is vice president, economics and risk management, with the Insurance Information Institute, New York. He can be reached at [e-mail].