The Market for Terrorism Insurance: Evaluating the Effectiveness of Risk Financing Solutions

When they occurred the 9/11 terrorist attacks constituted the most costly event ever in the history of insurance, raising the question of what are the most effective ways for a country to recover from economic losses from terrorism? This paper discusses the emergence of terrorism insurance market. We proposes five principles to evaluate programs ranging from a federal insurance program with mandatory coverage, a laissez faire free-market approach to the U.S. Terrorism Risk Insurance Act (TRIA). We show that the seven-year extension of TRIA in December 2007 raises major equity issues since insurers could now “game” the program by collecting ex ante a large amount of premiums, while being financially responsible for only a small portion of the claims ex post. The general taxpayer and the general commercial policyholder (whether or not covered against terrorism) would absorb the residual insured losses.