NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

The Market for Catastrophe Risk: A Clinical Examination

Kenneth A. Froot

NBER Working Paper No. 8110
Issued in February 2001
NBER Program(s):   AP   CF

This paper examines the market for catastrophe event risk i.e., financial claims that are linked to losses associated with natural hazards, such as hurricanes and earthquakes. Risk management theory suggests protection by insurers and other corporations against the largest cat events is most valuable. We show, however, that historically most insurers have purchased relatively little cat reinsurance against large events. We also find that premiums are high relative to expected losses, especially after cat events. We then examine clinical evidence to understand why the theory fails. Specifically, we examine transactions that look to capital markets, rather than traditional reinsurance markets, for risk-bearing capacity. These provide hints as to why the theory fails. We explore these hints in eight theoretical explanations and find the most compelling to be supply restrictions associated with capital market imperfections and market power exerted by traditional reinsurers.

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Document Object Identifier (DOI): 10.3386/w8110

Published: Froot, Kenneth A. "The Market For Catastrophe Risk: A Clinical Examination," Journal of Financial Economics, 2001, v60(2-3,May), 529-571. citation courtesy of

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