Capitalism vs. Terrorism

More and more American companies are buying terrorism insurance. Uh-oh.

How do you measure whether Americans feel safer from terrorism? The answer to such a question is only partly empirical. Safety isn’t measured by the absence of terrorist attacks. Rather, you must measure how much Americans fear such attacks. And feelings are difficult things to quantify.

Certain consumer data might shed light on Americans’ concerns about terrorism—say, airline passenger traffic, or purchases of duct tape. But the volume of airline passenger traffic can be impacted by all sorts of other factors, including industry competition and the macroeconomic climate. But there is one clear market measurement of American anxiety about terrorism: sales of terrorism insurance. Judging by the latest report from insurance giant Marsh, Americans—at least American businesses—are feeling less and less safe.

According to Marsh’s 2006 report, 59 percent of companies bought terrorism insurance last year, up from 58 percent in 2005, even as prices for such policies rose by about 9 percent. In 2003, only 27 percent of Marsh clients bought such policies. “I think it’s fair to see this data as a reflection of greater concern,” said Jill Dalton, managing director at Marsh Inc. “Our clients only have a certain amount of money to spend on insurance. And more of them are choosing to spend more on terrorism insurance.”

Of course, the concern is not spread uniformly throughout the economy. About two-thirds of companies in the Northeast have coverage, compared with about half in the South. Large companies were more likely to purchase coverage than smaller companies. And companies in the financial, real-estate, utility, and higher-education industries were more likely to have coverage than manufacturers.

This data should be presented with several caveats. First, terrorism insurance is a young, volatile industry. After 9/11, which caused about $40 billion in losses, commercial insurers began to refuse covering terrorism-related risks. The Terrorism Risk Insurance Act, passed in 2002 essentially ordered private insurance companies to offer policies that would cover terrorist acts, as certified by the U.S. government—with the feds serving as a backstop if claims were too huge.

Second, many companies may be forced by their lenders or landlords to purchase terror insurance. Banks may require it as a condition of making a mortgage on a property, or landlords might require it as a condition of a retailer’s lease—to make sure the rent is paid in case business is disrupted.

Third, and most significantly, although it aims to protect people and companies from unpredictable future events, insurance is a backward-looking industry. Insurers, and their policyholders, always fight the last disaster. Both the price (and the demand) for flood insurance rise after floodwaters recede. It’s no surprise that the most likely companies to have terrorism insurance are financial and real-estate firms in the Northeast—precisely the types of companies that suffered most on 9/11. Chicken-processing plants in Arkansas, or shopping centers in North Dakota, which weren’t targets on that awful day—and likely never will be—simply don’t see the need.

Of course, terrorism insurance is a fundamentally different product than, say, fire or hurricane insurance. “Property insurers are used to being pretty scientific when estimating the probabilities and potential losses caused by an earthquake or a fire,” said Jill Dalton of Marsh. “With terrorism, you can model what an impact might be on a specific building if there’s a bomb of a certain size, but you can’t model the probability of such an event happening.” The data points on which to make such actuarial projections have been few and far between. (Thank goodness!)

Even so, it’s surprising that insurance prices and purchases rose last year—the fifth straight calendar year in which no terrorist attack occurred on U.S. soil. Dalton notes another unusual dynamic that could be driving the terrorism insurance surge. Insurance is generally local. The damage wrought by Hurricane Katrina wouldn’t necessarily cause flood insurance rates for a home in Minnesota to rise. But in terrorism, she notes, “pricing responds to global events rather than purely local events.” In other words, the higher rates and higher volume of sales in the United States probably doesn’t reflect concerns by American companies that the nation is less safe from terror than it used to be. Rather, it may reflect concern that the world is less safe from terror than it used to be. This concern is backed up by hard data. The State Department reported that terrorism attacks worldwide rose 25 percent in 2006.