Opinion of the European Central Bank of 4 February 2025 on flood insurance (CON/2025/3)
OPINION OF THE EUROPEAN CENTRAL BANK of 4 February 2025 on flood insurance (CON/2025/3) Introduction and legal basis
On 10 October 2024 the European Central Bank (ECB) received a request from the Chair of the Oireachtas (Irish National Parliament) Joint Committee on Finance, Public Expenditure and Reform and Taoiseach (Irish Prime Minister) for an opinion on the Flood Insurance Bill 2021 (hereinafter the ‘draft law’). The ECB’s competence to deliver an opinion is based on Articles 127(4) and 282(5) of the Treaty on the Functioning of the European Union and Article 2(1), third and sixth indents, of Council Decision 98/415/EC , as the draft law relates to the Central Bank of Ireland (CBI), rules applicable to financial institutions insofar as they materially influence the stability of financial institutions and markets, and the ECB’s tasks concerning the prudential supervision of credit institutions pursuant to Article 127(6) of the Treaty. In accordance with Article 17.5, first sentence, of the Rules of Procedure of the European Central Bank, the Governing Council has adopted this opinion.
1. Purpose of the draft law
1.1 The draft law contains provisions intended to achieve fairness in the market for property and flood insurance in Ireland by prohibiting insurers from discriminating between certain persons when offering property insurance policies and by prohibiting insurers from unreasonably refusing to offer an insurance policy. To achieve this purpose, the draft law places certain obligations on insurance undertakings carrying out business in Ireland (hereinafter ‘insurers’) and confers certain powers upon the CBI. 1.2 The draft law prohibits insurers from discriminating when offering property insurance policies between: (a) persons with an insurable interest in a property located in an area designated as being at low or at medium risk of flooding (hereinafter ‘affected persons’); and (b) persons with an insurable interest in a property located in an area which is not designated as being at low, at medium or at high risk of flooding (hereinafter ‘unaffected persons’) . In this regard, the draft law employs the risk levels within the meaning of Directive 2007/60/EC of the European Parliament and of the Council . Insurers are prohibited from discriminating as regards the following matters. First, insurers cannot discriminate in their decision whether to offer an insurance policy to an affected or an unaffected person. Second,
1 Council Decision 98/415/EC of 29 June 1998 on the consultation of the European Central Bank by national authorities regarding draft legislative provisions (OJ L 189, 3.7.1998, p. 42).
2 Section 3 of the draft law.
3 Sections 1 and 2 of the draft law and Article 6 of Directive 2007/60/EC of the European Parliament and of the Council of 23 October 2007 on the assessment and management of flood risks (OJ L 288, 6.11.2007, p. 27). insurers cannot discriminate as regards the price at which a policy is offered, unless the price is reasonably justified by the current risk profile of the property. In other words, the prohibition on discrimination does not appear to prevent insurers from calculating a higher premium for affected persons than for unaffected persons, subject to reasonable justification based on the current risk profile of the property. Finally, insurers cannot discriminate as regards other terms on which the insurance is offered . 1.3 In addition, the draft law prohibits insurers from unreasonably refusing to offer an insurance policy to affected persons or offering a policy at an unreasonable price or on unreasonable terms to them . 1.4 The draft law confers upon the CBI the power to carry out an assessment of the manner in which an insurer deals with applications for insurance by affected persons . This assessment may include the extent to which the insurer in question acts in compliance with the draft law’s prohibition on discrimination and the duty not to act unreasonably in its dealings with an affected person. The draft law does not set any further parameters for such an assessment or the circumstances in which the CBI might carry out such an assessment. 1.5 Where the CBI has performed such an assessment, the draft law confers upon the CBI the powers to issue a direction to the insurer concerned to take such steps or to adopt or cease such practices as it considers appropriate and necessary to ensure compliance by that insurer with its obligations under the draft law . With regard to enforcement, the draft law confers powers on the CBI to enforce such directions on insurers that fail to comply with them by applying to the High Court for an enforcement order . When granting the enforcement order, the High Court must also impose a fine on the insurer unless the High Court determines that it would be unjust to impose such a fine. In such a case, it may impose a lesser fine or dispense with the requirement to impose a fine .
2. General observations
This opinion assesses the provisions of the draft law that impact: (a) the stability of the financial system, (b) the prudential supervision of credit institutions, and (c) the tasks of the CBI as a national central bank (NCB) and a member of the Eurosystem and the European System of Central Banks (ESCB). This opinion does not comment on the elements of the draft law that pertain to the prudential supervision of insurance undertakings, as these matters fall outside the ECB’s fields of competence . Moreover, this opinion does not address whether the draft law is compatible with Directive 2009/138/EC of the European Parliament and of the Council .
4 Section 3 of the draft law.
5 Section 4 of the draft law.
6 Section 8 of the draft law.
7 Section 9 of the draft law.
11 Directive 2009/138/EC of the European Parliament and of the Council of 25 November 2009 on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II) (OJ L 335, 17.12.2009, p. 1).
3. Impact of the draft law on financial stability
3.1 The draft law is relevant to financial stability, insofar as it relates to the climate insurance protection gap. The climate insurance protection gap refers to the uninsured portion of economic losses caused by climate-related natural disasters and this gap is expected to widen in the light of the increasing frequency and severity of such events due to climate change . In 2023, the ECB, in conjunction with the European Insurance and Occupational Pensions Authority (EIOPA), released a joint discussion paper analysing the climate insurance protection gap throughout EU Member States, whilst also identifying policy options to tackle the gap . This joint report also set out the economic relevance of the gap, including its implications for financial stability, and noted the role that private insurance may play in addressing the impact of climate-related natural disasters. More recently, the ECB and EIOPA have released a follow-up report, which analyses 12 existing national insurance schemes and outlines the possible role that European solutions may play in reducing the impact of natural catastrophes . 3.2 The joint ECB-EIOPA work on this topic outlines that climate-related natural disasters can be a source of systemic risk for financial institutions and financial markets through two main channels. First, physical damage to assets such as buildings can lead to reduced collateral values, including mortgage collateral. It can also lead to substantial repricing of loans and securities for financial institutions exposed to high-risk areas. Second, physical damage can lead to supply chain disruptions, which can, in turn, cause large losses for the real economy and on financial institutions’ balance sheets. In both cases, a high concentration of key economic activities in high-risk areas can amplify such losses, giving local events wider significance. This can result in a lower provision of credit in high-risk areas and to lower income borrowers, especially from less well-capitalised or less profitable banks . 3.3 Catastrophe insurance can increase banks’ resilience to such shocks by mutualising and transferring collateral and property losses to (re)insurance companies, which are better equipped to manage their climate-related exposures. By accelerating reconstruction, insurance can also help to reduce losses from supply chain disruptions. Finally, a lack of insurance may prevent the qualification of some property as eligible collateral, potentially increasing the exposure of banks to credit risk . 3.4 Catastrophe insurance is also a key tool to mitigate macroeconomic losses following extreme climate-related events such as floods and fires, as it provides prompt funding for reconstruction and should incentivise risk reduction and adaptation . Insurance payouts reduce uncertainty and support
12 See European Central Bank and European Insurance and Occupational Pensions Authority, Policy options to reduce the climate insurance protection gap: Discussion Paper, April 2023 (the ‘2023 joint ECB-EIOPA paper’).
13 See generally 2023 joint ECB-EIOPA paper.
14 Consorcio de Compensación de Seguros (CCS; Spain), Caisse Centrale de Réassurance (CCR; France), Norwegian Natural Perils Pool (NNPP; Norway), Belgian Natural Catastrophe Pool (CANARA; Belgium), Natural Disaster Insurance Pool (PAID, Romania), Natural catastrophe insurance of Iceland (NCI, Iceland), Danish Storm (DSC; Denmark), FloodRe (United Kingdom), Japan Earthquake Reinsurance (JER; Japan), National Flood Insurance Program (NFIP; United States), Australian Reinsurance Pool Corporation (ARPC; Australia), and Swiss National Hazard Pool (SNHP; Switzerland).
15 See European Central Bank and European Insurance and Occupational Pensions Authority, Towards a European system for natural catastrophe risk management, December 2024 (the ‘2024 joint ECB-EIOPA paper’).
16 See 2023 joint ECB-EIOPA paper, p. 12.
17 See 2023 joint ECB-EIOPA paper, p. 12.
18 See 2023 joint ECB-EIOPA paper, p. 2. aggregate demand and investment for reconstruction, enabling economies to recover faster and limiting the period of lower economic output. By contrast, without insurance, households and firms must finance post-disaster recovery mainly with savings, credit and/or uncertain government relief, which is likely to be much less efficient. In addition, low insurance coverage may increase the burden on governments, both in terms of macroeconomic risks and in terms of fiscal spending to cover uninsured damage. 3.5 The wider advantages of catastrophe insurance for the financial system, the economy and governments’ fiscal balances are not reflected in individual insurance contracts, which leads to market failure and insurance coverage that may be lower than is socially optimal . The positive externalities of insurance, such as a faster recovery following a disaster, less burden on fiscal budgets and reduced costs through better risk management, benefit not only policyholders but also the wider economy. However, individual insurers and consumers do not typically take these broader economic benefits of insurance into account, which leads to a market failure that exacerbates the insurance protection gap. Furthermore, the expectation that governments will ultimately cover natural catastrophe losses can encourage underinsurance, a moral hazard issue that further reduces the overall effects of insurance. 3.6 From this perspective, it might be beneficial to develop solutions that help address this market failure and reduce the insurance protection gap. However, to be effective, such solutions should be comprehensive and well designed. In particular, the joint ECB-EIOPA work on this topic suggests that such solutions require a multi-layered approach involving both the private and public sectors, while also considering the intricate interaction between insurance supply and demand . 3.7 In this respect, the ECB welcomes the objective of the draft law, to achieve fairness in the market for property and flood insurance. However, the design of the draft law could benefit from certain improvements. This is because the draft law, as it currently stands, may not effectively achieve its stated objective. First, given that the draft law prohibits insurers from discriminating between affected and unaffected persons as regards whether an insurance policy is offered, and as regards the price and terms on which an insurance policy is offered, it negatively impacts the ‘risk signalling role’ of insurance, which might in turn lead to less risk reduction and adaptation as well as lower risk awareness. Second, it may widen rather than reduce the flood insurance protection gap in Ireland over time. Finally, and most importantly, it is not sufficiently comprehensive: it narrowly targets the private sector and focuses only on its supply side. 3.8 Regarding the first point, the ECB would recommend that the draft law is carefully designed to ensure that the conditions under which insurance is offered encourage adaptation and reduce vulnerability to climate-related catastrophes over time. In that respect, the draft law should not undermine the role of insurance in providing incentives for risk reduction and adaptation by, for example, promoting risk
19 See 2024 joint ECB-EIOPA paper, p. 12.
20 See generally the 2023 and 2024 joint ECB-EIOPA papers.
21 Adaptation is a key component of the long-term global response to climate change. Climate change adaptation refers to enhancing adaptive capacity, strengthening resilience and reducing vulnerability to climate change. See Article 5 of Regulation (EU) 2021/1119 of the European Parliament and of the Council of 30 June 2021 establishing the framework for achieving climate neutrality and amending Regulations (EC) No 401/2009 and (EU) 2018/1999 (‘European Climate Law’) (OJ L 243, 9.7.2021, p. 1). awareness and providing risk-based incentives linked to premiums. In particular, impact underwriting is an underwriting and pricing strategy aimed at incentivising the policyholder to implement ex ante (structural) measures and reduce exposure to climate-related hazards . Both (a) the price of insurance and (b) the contractual terms and conditions under which insurance is offered are strong signals of the level of risk. Therefore, risk-based incentives linked to premiums and other contractual terms help enhance the awareness of policyholders of current vulnerabilities and can provide incentives to implement adaptation and mitigation measures that minimise physical risk exposure to climate-related hazards . For example, premium reductions could be associated with properties meeting certain standards with respect to flood-proofing in flood-prone areas. The cost of implementing the risk reduction measure could be compensated by a lower premium. From this perspective, the provisions of the draft law, particularly those prohibiting discriminatory treatment by insurers as between affected persons and unaffected persons, be it in relation to price or other contractual terms, may negatively impact the role that insurers play in signalling climate risk and incentivising risk reduction and adaptation. 3.9 As to the second point, the increasing frequency and severity of climate-related catastrophe events such as floods is likely to trigger repricing of insurance contracts or even prompt insurers to cease to offer cover in certain areas . If insurers are restricted from doing so, this may lead them to withdraw from certain markets altogether, thereby possibly increasing rather than reducing the climate insurance protection gap . Thus, the provisions of the draft law prohibiting discriminatory treatment between affected and unaffected persons might lead to a situation where insurers weigh the costs of providing flood insurance to a broad range of individuals in Ireland against the insurers’ benefits from being in the Irish flood insurance market. 3.10 This may happen where the internal risk assessments of certain insurers do not correspond to the risk levels of the flood hazard maps utilised by the draft law in assessing discrimination. For example, an insurer’s internal risk assessment might designate a specific geographical area as being high risk (or uninsurable), whereas the flood hazard maps may designate the same geographical area as medium risk. The non-discrimination provisions in the draft law then imply that the insurer has only two options: (a) offer insurance to ‘affected’ and ‘unaffected’ persons including those that – according to its own assessment – are at high risk (or uninsurable) or (b) withdraw from the (Irish flood insurance) market altogether. Since climate change brings more uncertainty and makes flood risk more unpredictable, diverging risk assessments between private financial institutions and public authorities cannot be excluded. 3.11 The climate insurance protection gap may also be widened by other inadvertent effects such as higher premiums or lower competition. If the draft law mandates insurers to treat unaffected and affected persons similarly in terms of flood protection insurance, this could lead to insurers offering higher cost premiums to both affected and unaffected persons. Higher insurance premiums could
22 See 2023 joint ECB-EIOPA paper, p. 18.
23 See 2023 joint ECB-EIOPA paper, p. 18 and p. 33.
24 See 2024 joint ECB-EIOPA paper, p. 9.
25 Some national insurance schemes include elements that allow for a certain degree of solidarity and crosssubsidisation among policyholders, but these elements are often complemented by other measures. See 2024 joint ECB-EIOPA paper, in particular Section 2. then lower insurance demand, especially from unaffected persons. This could in turn lead to adverse selection bias and the concentration of insurers’ portfolios on high-risk contracts, which could trigger further repricing of the contracts. Similarly, the retreat of some insurers from the Irish flood insurance market, or the potential unattractiveness of the market for new entrants, could lead to less market competition and thus to generally higher prices, which could in turn further lower insurance demand, in particular from unaffected persons. 3.12 As to the final point, all these examples illustrate that solutions that aim to address the insurance protection gap should be comprehensive and carefully designed. Overall, they should consider both the demand and supply sides of private insurance and involve, as appropriate, both the private and public sector. In addition to comprehensive solutions at national level, EU-level solutions could also be considered, notably in view of the potentially larger risk pooling and risk diversification benefits at EU compared to national level. 3.13 For instance, insurers’ reluctance to offer cover in certain areas may be justified where risks become excessively high or unpredictable . In such cases, insurance cannot make up for inadequate climate adaptation, spatial planning and (re)building conventions . 3.14 More generally, Member States should not only aim at addressing the insurance protection gap but also develop their fiscal frameworks to identify and account for the costs of natural disasters, adaptation and mitigation in order to make informed assessments of trade-offs . This requires better information and data and improved governance and management of climate risks. Pro-active measures on the vulnerability of buildings, planning rules that determine the location of exposures and climate change-resilient public investments are also likely to be important elements of a resilient society.
4. Impact of the draft law on the prudential supervision of credit institutions
4.1 The ECB expects credit institutions under its prudential supervision to consider climate-related and environmental risks at all relevant stages of the credit-granting process and to monitor these risks in their portfolios . For lending secured by immovable properties, in particular for mortgage lending, catastrophe insurance, such as flood insurance, plays an important role in mitigating credit risk, especially from the context of physical risk. Consequently, credit institutions should consider insurance availability when assessing the potential financial impact of physical risk on collateral taken for risk management purposes .
26 See 2024 joint ECB-EIOPA paper, p. 9.
27 See also Elderson F. (2024), ‘“Know thyself’ – avoiding policy mistakes in light of the prevailing climate science’, keynote speech at the Delphi Economic Forum IX, Delphi, April.
28 See 2023 joint ECB-EIOPA paper, p. 25. See also Article 9(2), point (d), and Article 14(3) of Council Directive 2011/85/EU of 8 November 2011 on requirements for budgetary frameworks of the Member States (OJ L 306, 23.11.2011, p. 41).
29 European Central Bank, Guide on climate-related and environmental risks, November 2020.
30 See Supervision Newsletter, ‘Climate-related data for the real estate sector: challenges and solutions’, 13 November 2024. 4.2 Credit institutions are, inter alia, required to consider environmental, social and governance risks, including physical risks arising from flooding, in their collateral valuations . Catastrophe insurance, such as flood insurance, plays a central role in this regard. Notably, Article 208(5) of the Capital Requirements Regulation requires that immovable property taken as credit protection is adequately insured against the risk of damage. Furthermore, credit institutions are required to have in place procedures to monitor the adequacy of insurance. As described in the previous section, the draft law may negatively affect insurance coverage in Ireland, and this may in turn negatively affect the ability of credit institutions to recognise immovable properties as eligible collateral in cases where insurance coverage cannot be deemed as adequate. 4.3 The ECB further wishes to highlight that credit institutions can also mitigate the impact of physical risks from flooding by financing improvements to the resilience, protection and adaptation to physical risks of buildings or housing units. Where such modifications to immovable property unequivocally increase its value, credit institutions can recognise such increases in their valuation of immovable property . As outlined above, the draft law may negatively impact the role that insurers play in incentivising such risk reduction and adaptation measures, thereby undermining incentives for such modifications.
5. Impact of the draft law on the Central Bank of Ireland
5.1 The ECB observes that it adopted an opinion in 2017 on a substantially identical draft Irish law . Since then the Court of Justice of the European Union has given a ruling on the interpretation of Union law having implications for the ECB’s assessment of the conferral of new tasks on NCBs in the ESCB, including the CBI . 5.2 In accordance with Article 14.4 of the Statute of the European System of Central Banks and of the European Central Bank, NCBs may perform functions other than those specified in that Statute, unless the Governing Council finds that those functions interfere with the objectives and tasks of the ESCB. Where a Member State assigns such a function to its NCB, that NCB is responsible and liable for the performance of that function. Nevertheless, when defining the responsibility and liability of an NCB in relation to that function, Member States are required to comply with their obligations deriving from Union law and, in particular, Article 123(1) and Article 130 of the Treaty .
5.3 Monetary financing prohibition
31 See Article 208(3) of Regulation (EU) No 575/2013 of the European Parliament and of the Council of 26 June 2013 on prudential requirements for credit institutions and amending Regulation (EU) No 648/2012 (OJ L 176, 27.6.2013, p. 1).
32 Regulation (EU) No 575/2013 of the European Parliament and of the Council of 26 June 2013 on prudential requirements for credit institutions and amending Regulation (EU) No 648/2012 (OJ L 176, 27.6.2013, p. 1).
33 See Article 229(1) of Regulation (EU) No 575/2013 of the European Parliament and of the Council of 26 June 2013 on prudential requirements for credit institutions and amending Regulation (EU) No 648/2012 (OJ L 176, 27.6.2013, p. 1).
34 See Opinion CON/2017/12. All ECB opinions are published on EUR-Lex.
35 See judgment of the Court of Justice of 13 September 2022, Banka Slovenije, C-45/21, ECLI:EU:C:2022:670.
36 See judgment of the Court of Justice of 13 September 2022, Banka Slovenije, C-45/21, ECLI:EU:C:2022:670, paragraphs 53, 54, 57 and 97. 5.3.1 Article 123(1) of the Treaty prohibits the NCBs from granting overdraft facilities or any other type of credit facility to public authorities and bodies of the Member States. Article 1(1), point (b), of Council Regulation No 3603/93 defines the term ‘other type of credit facility’ for the purposes of Article 123 of the Treaty as, inter alia, any financing of the public sector’s obligations vis-à-vis third parties. Accordingly, the NCB concerned must not assume obligations vis-à-vis third parties that could potentially be incumbent on the public sector. Consequently, the NCB concerned must not finance pre-existing obligations vis-à-vis third parties that are incumbent on other public authorities or bodies and the effective financing of the obligations vis-à-vis third parties by the NCB concerned must not result directly from the measures adopted by, or from the policy choices made by, other public authorities or bodies . 5.3.2 While the draft law does not as such impose any financing obligations on the CBI, the conditions under which the CBI is to exercise the function assigned to it under the draft law must be in line with the above limitations deriving from Article 123(1) of the Treaty. In particular, the liability of the CBI must be limited to infringements by the CBI of the rules imposed on it in that context, to the effect that the compensation of third parties who have suffered harm is the consequence of the actions of the CBI and not the assumption of a pre-existing obligation vis-à-vis third parties incumbent on other public authorities or bodies . 5.3.3 The draft law does not specifically state the liability regime applicable to the CBI in carrying out the tasks under the draft law. The ECB understands, however, that there is a general liability regime applicable to the CBI for anything done or omitted in the performance or purported performance or exercise of any of its functions or powers . The functions or powers of the CBI include the performance of such other functions as are imposed on it by or under the Central Bank Act 1942 and any other act or law. Moreover, the Central Bank Act 1942 grants the CBI the power to do whatever is necessary for or in connection with, or reasonably incidental to, the performance of its functions . The Central Bank Act 1942 provides that the general liability regime applicable to the CBI only applies if it is proved that the act or omission was in bad faith . It follows that the general liability regime applicable to the CBI is fault based. The CBI will only be liable for the compensation of third parties who have suffered harm, where such harm is the consequence of the actions of the CBI acting in bad faith. Against this backdrop, the liability regime applicable to the CBI, when exercising the function assigned to it under the draft law, is in line with the limitations deriving from Article 123(1) of the Treaty. 5.4 Financial independence
37 Council Regulation (EC) No 3603/93 of 13 December 1993 specifying definitions for the application of the prohibitions referred to in Articles 104 and 104b (1) of the Treaty (OJ L 332, 31.12.1993, p. 1).
38 See judgment of the Court of Justice of 13 September 2022, Banka Slovenije, C-45/21, ECLI:EU:C:2022:670, paragraphs 67 to 75 and 84.
39 See judgment of the Court of Justice of 13 September 2022, Banka Slovenije, C-45/21, ECLI:EU:C:2022:670, paragraph 71.
40 Section 33AJ(1) and (2) of the Central Bank Act 1942.
41 Section 5A(1)(i) and Section 5A(2) of the Central Bank Act 1942.
42 Section 33AJ(2) of the Central Bank Act 1942. 5.4.1 Article 130 of the Treaty prohibits Member States from placing their NCBs in a situation which in any way undermines their ability to carry out independently a task falling within the scope of the ESCB . This would be the case if, for example, an NCB were prevented from building up adequate financial resources in the form of reserves or buffers to offset losses, particularly those resulting from monetary policy operations, and the Member State concerned did not ensure in advance that the NCB had the necessary funds to bear the financial burden resulting from exercising a function outside the scope of the ESCB (such as the funds necessary to be able to pay the compensation resulting from the liability regime for the performance of that function), while retaining its ability to carry out its ESCB tasks effectively and independently . An NCB constrained in its ability to create and/or restore its reserves or buffers may need to seek the consent of political authorities to obtain funding or recapitalisation. This places the NCB in a situation of dependence on those political authorities of the Member State . 5.4.2 The ECB notes that, in the light of the general limitations applicable to the CBI’s liability, i.e. liability is limited to acts or omissions which are in bad faith, the CBI’s risk of exposure to liability in the context of the exercise of its functions under the draft law appears to be sufficiently remote. It does not appear that the draft law would lead to substantial losses of a magnitude that might constrain the CBI’s ability to build up adequate financial resources to carry out its ESCB tasks. This opinion will be published on EUR-Lex. Done at Frankfurt am Main, 4 February 2025. [signed] The President of the ECB Christine LAGARDE
43 See judgment of the Court of Justice of 13 September 2022, Banka Slovenije, C-45/21, ECLI:EU:C:2022:670, paragraph 97.
44 See judgment of the Court of Justice of 13 September 2022, Banka Slovenije, C-45/21, ECLI:EU:C:2022:670, paragraph 105.
45 See judgment of the Court of Justice of 13 September 2022, Banka Slovenije, C-45/21, ECLI:EU:C:2022:670, paragraphs 100 to 102.