Cost Of Car Insurance To Rise Due To Floods

With billions of pounds of damage to homes and businesses, can we expect a rise in premiums, and will it be limited to just our home insurance?

The whole country should prepare for a possible rise in home-insurance premiums as a result of the floods. Not only that, though, but we may see rises in the cost of other insurances, such as car insurance. This is not because there were some claims for damage to cars by flooding, but as a result of the size of the home (and business) insurance claims.

It's the same with any major catastrophes. Consider the World Trade Center attack and the hurricanes in the US, each of which cost insurers tens of billions of pounds. Some big insurers operate both in the US and the UK, and so some of the cost can be shipped over to us.

But even the UK insurers that don't operate in the US were affected by these events. This is due to the way that insurers throughout the world are inextricably linked through reinsurance. Yes, insurers have insurers too.

What happens is, insurers insure you. Then they think 'Hang on a second, that was a bit risky. What if he claims?' So then they say to a reinsurer 'Excuse me. Would you buy some of this risk from me?' And so risk gets passed around, split up and shared out in many cunning deals.

Then a major event happens, such as a devastating hurricane. US residents make claims off their home insurers. (There would be many other claims too, on medical insurance and business insurance, for example, but let's keep this simple.) Some of these insurers being UK insurers, they spread out part of the huge cost amongst their home-insurance customers here via higher premiums.

Also, all the affected insurers in the US (both those with and without operations in the UK) contact their own insurers -- the reinsurers. These huge, multinational companies, hopefully after giving our insurers a hard time about not filling in the claim form properly like they do to us, pay out for their very large chunk of the risk.

Then, to make up for this, the reinsurers start charging insurers across the globe more for reinsuring. Mostly this will mean higher reinsurance costs on home insurance, but to a lesser extent they charge more for insurances that were relatively unaffected by the hurricanes. They do this to spread out the cost a little bit more.

Next, insurers around the world must cover the increased cost of reinsurance. To do this, they increase all our insurance premiums.

And so it is with the floods. With billions of pounds of claims, insurers may find that the cost was a little bit too much. This means we'll see a ripple of cross-subsidisation affecting our car insurance and maybe other insurances too.

However, I think if the floods do cause this to happen, the effect will be much more modest than those of the collective US hurricanes of 2005, or of the WTC attack.

It all sounds very complicated, doesn't it? And it is, actually, a lot more complicated than my simple explanation. But, the funny thing is (and contrary to The Fool's justifiably cynical view of the financial services industry as a whole), I believe the cross-subsidy and reinsurance system works rather well, for the most part. After all, most of us can offset a large variety of huge risks at an affordable price.

The Motley Fool Reinsurance!

If all Fools agree to drive safely this year, that'd probably offset any increased car insurance cost for the whole country! Although you could always ask someone else to reagree for you.

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