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The International Yearbook of Environmental and Resource Economics 2003/2004

A Survey of Current Issues

Edited by Henk Folmer and Tom Tietenberg

This major annual publication provides a state-of-the-art survey of contemporary research on environmental and resource economics by some of the leading experts in the field.
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Chapter 4: Managing environmental risk through insurance

Paul K. Freeman and Howard Kunreuther


Paul K. Freeman and Howard Kunreuther Risk is inherent in all human activities, both personal and professional. While the number and variety of risks have grown and changed dramatically throughout history, the basics remain the same: risk of loss of life, limb, health, livelihood, or property due to predictable events (reduced income upon reaching the mandatory retirement age) or to unpredictable events (loss of life in an earthquake). There are some risks that governments, corporations and individuals choose to retain, consenting to pay for any losses that result from those risks. There are many more risks that exposed parties would prefer not to retain. Insurance can often be used as a policy tool to transfer these risks to another party. It has the added advantage that it can encourage the entity through premium reductions to invest in cost-effective risk reduction measures. Increasingly, policy-makers have been exploring the proactive use of insurance as a tool to manage environmental risk effectively. In particular, five attributes of insurance exist that make it an effective risk management tool: its ability to spread risk; its role in variance reduction; its ability to segregate risk; its encouragement of loss reduction measures; and its ability to monitor and control behavior. The precondition for utilizing insurance as a policy tool is that the risk in question must meet a set of preconditions that make it insurable. This chapter explores the role that insurance can play in managing environmental risk. We define environmental risk rather...

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