Who's Going to Pay For Climate Change?

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The Bush administration, so warlike in response to terrorism, has revealed a pacifist streak in its approach to the threat of climate change. At meetings on the Kyoto Treaty last fall in New Delhi, U.S. delegates argued that we ought to be thinking about adapting to changing climate. The administration's position seems to have gone from doubt about the science of climate change to suggesting it is inevitable without ever acknowledging that the nation might take steps to avert the threat. The new position is a clever one: By leaving moot the question of cause, and by implying that no one could have done anything about it, the administration also implies that no one is responsible. The administration underscored its genial "no fault" approach when it recently asked industry to voluntarily reduce emissions.

Nice try, but don't be surprised if there are few takers for this line of reasoning. As the costs of climate change become more obvious in everything from lost crops to wrecked real estate, victims will begin pointing fingers and businesses will begin diving for cover. John Dutton, dean emeritus of the Penn State's College of Earth and Mineral Sciences, estimates that $2.7 trillion of the $10 trillion U.S. economy is susceptible to weather-related loss of revenue, meaning that an enormous number of companies have "off balance sheet" risks related to climate. This could wound corporate America in a lot of ways, particularly as insurance companies discover this new area of risk.

Most policies covering natural disasters are renewable on a yearly basis. When risks become too expensive, insurers can simply walk away. Something like this happened after the Sept. 11 attacks. Insurers suddenly realized that they had vastly underpriced the risk of terrorist attacks and stopped writing new policies. This brought many big construction projects to a standstill until President Bush signed a bill in Nov. that shifted responsibility for $100 billion of future terrorism-related losses from insurers to the taxpayers.

If climate change starts inflicting losses, insurers will again head for the exits. Just such insurer flight has already caused problems in North Carolina's Outer Banks and in parts of New York's fabled Hamptons, where coastal storms are eating up homes and businesses. When insurance companies quit these high-risk places, the burden shifts to banks. But they don't have the same freedom simply to cancel mortgages and loans. What will happen to the markets if banks start demanding insurance for weather-related events that is either prohibitively expensive or completely unavailable?

The climate change threat that will really get the attention of executives and boardmembers, however, is the possibility that they might be liable for damages. This could happen if insurers like financial giant SwissRe start changing the insurance policies that insulate directors and officers (called D&O insurance) from the costs of lawsuits resulting from the actions of their corporations. Businesses open themselves to lawsuits when they take a position contrary to others in their industry, and in recent cases such as asbestos litigation, courts have assessed damages proportionate to a company's contribution to a problem.

Chris Walker of Swiss Re describes how this might come about with regard to climate change. He notes that energy giant Exxon/Mobil accounts for roughly 1% of global emissions, and has aggressively lobbied against any efforts to reduce greenhouse gasses. "So," says Walker, "we might then go to them and say, 'Since you don't think climate change is a problem, we're sure you won't mind if we exclude climate related lawsuits and penalties from your D&O insurance.'" Swiss Re recently set the stage for such action by sending a questionnaire to its D&O customers inquiring about their company's strategy to deal with climate change regulations.

Some climate change regulation seems to be coming, whether the federal government acts or not. States such as New Jersey, Massachusetts and New York are following the lead of California, imposing their own limits on greenhouse gases and presenting businesses with the prospect of a crazy quilt of regulations. Various state attorneys general are going further, exploring ways they might sue companies for climate change-related damages. And if the Kyoto Treaty comes into force, as now seems likely this spring, countries might similarly seek trade sanctions against the U.S. for its unwillingness to abide by its terms.

Faced with the prospect of class-action lawsuits, states that take a "roll your own" approach, and trade sanctions, many of those executives who are opposed to the Kyoto Treaty might begin to rethink their position, and the Bush administration might find itself abandoned by its ostensible allies. For corporate executives pondering climate change, threats to the wallet may prove far more persuasive than science.