Environmental pollution liability insurance in China: A bumpy road leading to a bright prospect

Perhaps you are still concerned about developments in the Deepwater Horizon oil spill, or the more recent aluminum spill in Hungary. Maybe those pictures of dead fishes from the Ting River in China early this year are still on your mind. Or you still remember, not long after, another major pollution incident in Dalian, a city in northeast China.

All of these incidents have set alarm bells ringing about the state of the environment, especially in China. It is against this backdrop that we discuss the development of environmental pollution liability insurance in China, its attendant challenges and how insurers can help grow this market.

Available insurance products in China

Environmental pollution liability insurance developed rather slowly in China over the past decade. However, with increasing awareness of environmental issues and stronger government enforcement, the situation has improved in recent years.

Potentially liable parties in environmental pollution incidents can vary widely. They may range from land owners to owners/operators of installations, to owners/operators of ships/railways/motor vehicles.

To provide protection for potentially liable parties against liability in such incidents, insurers have designed specific liability insurance products. Currently, there are two types of these policies in China, namely stand-alone environmental pollution liability insurance and endorsement attached to public liability insurance. Both types of insurance provide the insured with cover for the following sudden/accidental pollution events, according to the terms and conditions set out in the policy:

  • bodily injury of third party;
  • property damage (including clean-up cost) to third party;
  • costs of measures to prevent further insured losses following an insured event; and
  • legal costs (if any) arising from any relevant lawsuit.

Pollution events resulting from the gradual release of pollutants or the restoration of ecological damage are not covered. Specific industries with very high and hardly controllable environmental exposure, such as waste disposal and mining (e.g. activities with tailing dams, extensive use of chemicals); those that carry nuclear risk; and those where historical pollution cannot be distinguished from future events tend to be excluded as well, due to their lack of insurability.

Challenges

While environmental pollution liability insurance has the potential for large-scale growth in China, the following challenges must be overcome first:

Legal framework: The past decade has witnessed a significant increase in environmental protection laws and regulations in China.  However, while this may help set the legal framework for environmental pollution liability in China, it remains to be seen how the laws and regulations will be interpreted by national and local courts. Issues about the willingness of local governments to take legal action against polluters and how the existing environmental pollution liability laws and regulations are to be applied in a third-party claims context are yet to be clarified.

Market demand: Environmental pollution liability insurance penetration is low in China. There seems to be a gap between operators’ understanding of their environmental responsibility and increasing public and government awareness of pollution issues such as air pollution, drinking water quality and the related liabilities of potential polluters.

Most operators do not feel the pressure to buy environmental pollution liability insurance in China for the time being. Even if they decide to buy, operators would typically go for sudden and accidental pollution coverage with a small sub-limit within the public liability cover.

A few insurance companies have started environmental pollution liability dialogue in some pilot locations with the support of local governments. However, due to low demand, resources allocated to this liability line by insurance companies are much fewer than those devoted to other lines of business such as property insurance, where the risk landscape is clearer and the premium contribution is larger.

The demand for environmental pollution liability insurance products will largely depend on how rigorously local governments introduce and enforce environmental pollution liability laws and regulations: the more rigorous the enforcement, the higher the demand for such products.

Lack of historical loss data: As environmental pollution liability and the corresponding coverage are rather new, the insurance industry only has limited historical loss data available. This makes it very difficult to estimate loss severity and loss frequency by using conventional methods.

Underwriting experience: Good underwriting goes hand in hand with proper risk management and claims handling. Technical, environmental, legal and corporate factors have to be assessed in identifying and selecting risks. Claims handling of damage to contaminated property and subsequent clean-up require specific scientific, technical, legal and litigation skills.

Both risk management and claims handling require skill sets different from those needed for other insurance lines. These are areas where a win-win situation can be achieved between reinsurers and insurers. Reinsurers can provide world-class risk and claims management services; insurers, in return, will be able to offer more comprehensive services to their customers.

Referencing overseas experience

Whilst it takes time and effort to overcome the aforesaid challenges, it is often good to refer to the experience of other markets, especially developed insurance markets, where environmental pollution liability insurance plays a key role in protecting operators and society at large against pollution events.

The developments in Europe, for example, show that increased public awareness of pollution usually results in more stringent legislation regarding pollution protection and liability regimes. A better understanding of potential liabilities related to pollution will help operators apply adequate risk management options.  Operators' risk management considerations may include actions to change production processes, to implement environmental management systems, to reduce their environmental footprint, or to buy insurance to protect their assets against unforeseeable and unexpected pollution events.

Instead of buying gradual pollution insurance, operators are increasingly looking for insurance solutions that cover the legal requirements following sudden/accidental pollution events to clean-up contaminated land/water, as well as the costs of restoring environmental or natural resources damage.

The environmental impact of the gradual emission of pollutants can be best dealt with by technical measures or management decisions.  It is because sudden/accidental pollution events, in whatever state-of-the-art environmental management systems, are not predictable and may lead to severe financial consequences for the operators. Environmental pollution liability insurance is perceived as an effective instrument for protecting operators against claims based on environmental pollution liability regimes.

What's more, insurance usually requires operators to have risk management measures in place, such as fire/premises protection, operation monitoring, emergency planning and environmental management systems. These can help operators identify, evaluate, mitigate and report on any unexpected factors driving large loss potentials, and therefore help reduce the number of incidents, mitigate or even avoid economic losses.  These can also help insurers better understand the risks underwritten so as to ensure adequate risk premiums. Ultimately, all these will help improve the development of a country.

Growing the market

We believe that the legal landscape in China is a key factor driving demand for environmental pollution liability insurance. As yet, environmental pollution liability insurance is not compulsory in China. The demand for such insurance will depend on such factors as:

  • the interpretation and implementation of existing laws and regulations;
  • enforcement by national and local governments; and
  • the infrastructure for the environmental pollution liability insurance system (e.g. basic data, underwriting skills, risk evaluation, claims handling capability).

Meanwhile, insurers can help increase operators' understanding of their exposure to environmental pollution liability and provide adequate risk transfer solutions to protect operators' assets.


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