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INSURANCE | 06.06.2024

Are we living in an “era of exponential risks”?

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In an increasingly interconnected world, a cargo accident can be much more than a simple mishap: it can disrupt global supply chains, the price of goods, industrial production, and strain relations between countries. It’s an example of what Moody's, one of the Big Three rating agencies, calls “exponential risks,” a trend that poses major challenges as well as opportunities for the insurance industry.

Geopolitical tensions, inflationary pressures, cyberattacks, disruptions to international trade networks, and extreme weather events are among the greatest risks the world faces. Because they're linked to globalization or digitalization, a recent Moody's report notes that the nature of risk is changing, and that risks are no longer linear threats but interdependent, leading to an "era of exponential risk.”

"Never before have individual risks had the potential to cause such widespread disruption," Moody's analysts add. MAPFRE Economics, MAPFRE's economic research center, also shares the view that one of the main characteristics of today's global challenges is their interconnectedness.

"The risks analyzed in recent years have evolved and shown their interconnectedness over time, highlighting the need to address economic and geopolitical challenges in a comprehensive manner," said Gonzalo de Cadenas-Santiago, Director of Macroeconomics and Financial Analysis at MAPFRE Economics. The center has published the report Risk Environment 2024-2026, a look at the global environment and its risks, observing their "changing dynamics."

Technology or trade, among the main causes of the “domino effects”

There are three factors that are leading to exponential risks, according to Moody's:

  • The “interconnected web of relationships” that most — if not all — organizations and nations now possess. Rarely does any company operate in isolation
  • The “underlying shared platform connectivity that links us all.” There is “system-wide” interdependence: we need each other to perform the functions of our respective organizations. And technology interdependence: we are linked — by software, system integration, or basic electronic communication — to each other.
  • The “multi-dimensional nature of newer risks” that thrive in an interdependent environment. Take cybernetics, for example, which poses a problem on several fronts: technological, geopolitical, economic, etc.

As a result, companies and nations now find themselves increasingly vulnerable to a risk “domino effect,” says Moody's. “A single risk, affecting a single company or country, triggers other risks over time — both within the company itself and beyond,” they add.

There are numerous examples of this trend: a military conflict that leads to energy insecurity, disruptions in raw material supply, rising inflation, or a refugee crisis; a ransomware attack on an oil pipeline that causes a shortage of goods and products in several markets; a destructive weather event that disrupts vital supply chains, affecting trade, food availability, and national security; the automation of agricultural crops, which makes them highly vulnerable to cyberattacks… And all these risks are magnified when they collide with others.

Responses must be coordinated

MAPFRE Economics suggests how these issues should be addressed. Amid the "complex interconnectedness" of global risks and challenges, "international cooperation and collaboration between the public and private sectors, along with proactive leadership to effectively mitigate emerging and long-term risks," are becoming increasingly important, argues Gonzalo de Cadenas-Santiago from MAPFRE's research center.

Faced with problems of global proportions, it’s difficult for authorities to take effective action unless they are coordinated. And companies will increasingly need to collaborate with each other at the international level and engage in dialogue with governments and institutions to address the risks that affect their business.

Opportunities — and challenges — for the insurance industry

The insurance industry is responsible for providing protection, through indemnification and other means, when risks materialize. So an increase in their cost, as Moody's forecasts, would have a significant impact on the activities of companies in this industry, which is one of the most affected by this trend.

In this scenario, technologies that make it possible to anticipate dynamics, such as data analytics or risk modeling, which are becoming increasingly sophisticated tools, will play a key role in ensuring that the industry adapts and remains viable.

This isn't necessarily bad news — while it presents challenges for companies, redefining the risk scenario can also create new needs to be addressed. It also shows how important the industry is, as its coverage makes economic players more resilient to potential threats. Cyber insurance or climate event protection are some of the areas where the demand for insurance solutions is sure to grow.

 

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