By Alex Tarrant and Gareth Vaughan
The Earthquake Commission (EQC) has hiked its estimated liability from the Christchurch earthquakes by NZ$4 billion to NZ$7.1 billion.
This would mean the government would be required to honour its guarantee of EQC's disaster fund, which had about NZ$6 billion of assets before the Christchurch earthquakes on September 4, February 22 and June 13.
Credit rating agency Statandard & Poor's said the announcement would not alter the EQC's rating, as the disaster fund was backed by the government. S&P said it was working through the implications of the revised estimates on the Crown’s operating balance and projected debt profile, and had nothing to add to its previous comments on New Zealand’s credit quality.
"The ratings on New Zealand reflect our opinion of the country's fiscal and monetary policy flexibility, strong institutions, economic resilience, and actively traded currency. New Zealand's credit quality is weakened by its high external liabilities, despite some deleveraging in recent years," S&P said (see full release below).
New estimates
Finance Minister Bill English says the new estimate follows an actuarial valuation of EQC's liability, based on available field assessments of damage claims. It includes an increase of NZ$2.17 billion from the February 22 earthquake and NZ$1.42 billion from the June 13 earthquakes and other aftershocks, which were not previously included.
Despite the increased liability, which English said would have a one-off impact on the government's 2010/11 operating balance, he said the government was still on track to return to surplus in the 2014/15 year and to keep net debt below 30% of Gross Domestic Product (GDP). EQC would meet most of the increased costs through its Natural Disaster Fund with the government meeting the shortfall.
The 2010/11 Crown accounts, due out in October, will show an operating deficit before gains and losses up to about NZ$18 billion, which is NZ$1.3 billion higher than the initial Budget forecast.
"The Government is committed to rebuilding Christchurch and supporting the people of Canterbury," English said. "Today's announcement will not affect homeowners' claims, which EQC will continue to pay in full. And it will not delay rebuilding in Christchurch."
"EQC can meet most of these costs through the Natural Disaster Fund, which held about $6 billion before the first earthquake. The Government, through its guarantee under the Earthquake Commission Act, will meet any shortfall. EQC also has reinsurance in place to help meet the cost of any future events."
"Despite the increased liability, which will have a one-off impact on the Government's operating balance for the 2010/11 year, the Government remains on track to meet Budget forecasts of a return to surplus in 2014/15 and to keep net debt below 30 per cent of GDP," Mr English says.
He added that the latest figures remained estimates and said EQC and the Treasury would continue to periodically revise the expected liability as more claims are completed and more information becomes available.
Meanwhile, Earthquake Recovery Minister Gerry Brownlee said the Canterbury and Christchurch earthquakes were likely to rank globally as the fourth most costly for insurers since 1970.
Above and beyond
EQC was liable for the first NZ$1.5 billion in costs from the September 4 and February 22 earthquakes, and had reinsurance of an extra NZ$2.5 billion in place for both, meaning it had NZ$4 billion in costs covered for each event. However with costs rising above that NZ$4 billion mark, EQC has to dip into its fund for those extra costs - something it did not initially expect to have to do.
The higher than expected costs from the February 22 quake, as well as costs from the June 13 quake, mean EQC will have to clean out its NZ$6 billion in reserves, when before it was expected to have about half that left over once Christchurch costs had been paid.
We had been doing better
At a press conference in the Beehive, English said the government’s budget for the year to June 2011 had run better than expected, and was on-track for a deficit before gains and losses of NZ$14 billion, down from an initial estimate of NZ$16.7 billion.
This was due to a higher than expected tax take, and lower than forecast government expenditure. But the revised quake costs would push this out to NZ$18 billion, as the increased cost to EQC would have to be taken into account.
The re-estimates underlined the vulnerability New Zealand had economically-wise.
“We have reasonably fast rising government debt, which we’re getting on top of; We’ve got high levels of overseas debt, and this is an extra cost we’re going to have to carry. So it makes us a bit more vulnerable today than we were before we knew this number,” English said.
Any questions on New Zealand’s credit rating and costs of borrowing were best directed at the ratings againcies.
“You weigh it up don’t you – on the one hand it’s a one-off, on the other hand it is a bit of a set-back when we were making significant progress,” he said.
'Won't affect EQC payouts'
Brownlee said the announcement would not affect Canterbury homeowners in line for a payout from the EQC.
It is now estimated 30,000 houses will have damage greater than NZ$100,000 in damage – the amount covered by EQC for residential buildings. That is up from an initial estimate of 12,000 houses.
“Today’s announcement will in fact confirm for homeowners what many already knew – that the damage they thought they saw after the earthquakes proves to be much greater when the full assessment is completed by EQC,” Brownlee said.
Disaster fund to zero
English said that as a result of this estimate, the EQC’s natural disaster fund would fall to zero as financial assets were sold off to cover the increased future liabilities.
That would mean the Crown would have to cover costs of further disasters. EQC would still have its existing reinsurance contracts, although arrangements would become more complex over the next twelve months.
“There’s further reinsurance, but any further EQC liability would then be picked up directly by the Crown because the natural disaster fund is likely to disappear,” English said.
The government would focus first on meeting the EQC’s existing liabilities as quickly as possible, before perhaps looking at ways to replenish the fund. English would not rule out higher EQC levies, or some sort of taxpayer levy to help top up the fund - a policy pushed for by the Green Party following the February 22 earthquake.
UPDATE: A spokeman for English has clarified that the government was not putting the Green Party proposal back on the table, and English's comments were only specific to the possibility EQC insurance levies may rise.
Following the announcement from English and Brownlee, Green Party co-leader Russel Norman said the figures showed the government needed to consider a temporary taxpayer earthquake levy. See details on the Green Party's proposal here.
“A small temporary earthquake levy is the fairest way to pay for the rebuilding of Christchurch. The Key Government has previously rejected the idea of a levy stating we had the funds to cover our liabilities," Norman said in a press release.
“Now it turns out the Government was wrong by four billion dollars. It is poor economic management to have not managed the Government’s finances in a way that can absorb these kinds of shocks. It’s now time to investigate a temporary levy on income," he said.
“New Zealanders have indicated they are prepared to fund a levy as the fairest way to share the costs of the earthquake. Ignoring this option in favour of more debt is bad economic management. Residents of Christchurch have already been hit with rates rises and will be exempt from this levy."
Worse than expected
English said he expected councils and private insurers to also have been reassessing costs like the Crown had done. AMI, the insurance company which may need up to NZ$1 billion worth of government backing earlier in the year after indicating it might not meet all of its claims, would be doing its own estimates and reporting back to the government.
“This is a re-estimate just on EQC’s liability, it’s an indication that, in general, the February quake in particular caused more damage than was previously thought,” he said.
“As all the insurers work through their individual assessments, that will probably become apparent, including in AMI’s case."
Will reinsurers touch us now?
Brownlee was optimistic the reinsurance industry would not turn its back on New Zealand following these revisions. He is heading to a major global reinsurance event in Europe in September.
“They know what they’re exposures are because they’re contracted in. So those companies that are reinsuring private insurers already I think will understand from their private insurance clients that the size of the residential damage is bigger than first assessed," Brownlee told the media conference in the Beehive.
"But really what the message we’re taking is, if you look at insurance as a risk-based industry, the way it becomes profitable is if you de-risk. Everything the government is doing is about trying to de-risk the earthquake damage that could occur in the future," Brownlee said.
"We do know a lot about the seismology of the land in Christchurch, we will know from that the sort of treatment we will need to give to foundations of buildings and building codes going forward; We’ve decided that some land is not suitable for immediate re-building, and may not be for many years to come – so we’ve done that buy-out exercise," he said.
“New houses will be built on stronger land to higher codes, further de-risking. Then I think it’s a matter of them understanding that we do have a dynamic economy that still operates in Canterbury – it’s a NZ$27-30 billion economy, which is showing good signs of staying stable. So the long-term prospects for a risk-based business in Canterbury are better than perhaps some might initially think.”
EQC had reinsurance contracts in place, as would private insurance companies, Brownlee said.. Government had received advice that reinsurance was still available, although price would be an issue.
“It’s how those contracts are shaped up in the future that’s important. So letting the international reinsurers understand how much we’re de-risking earthquake-type events, not only in Canterbury but also throughout New Zealand in the years ahead, is going to be very, very important for being able to secure future contracts,” Brownlee said.
“I don’t think you could take this as being an absolute determinant that reinsurers will desert. Every indication we’ve got is that reinsurance remains available, it’s the price that becomes the most important thing, and the price, of course, is determined by the perceived risk going forward,” he said.
“If we look at the way in which your retail insurance policy premium is calculated, somewhere between 15% and 20% of that policy is reinsurance costs. So a doubling of it doesn’t mean a doubling of your premium. It has a price increase obviously.
“We just need to make sure that reinsurers understand that we are very, very keen to firstly quantify thedamage here in New Zealand, to fix it, and to make sure that going forward the reasons for a lot of the failure of buildings, whether it’s land or building failure itself, are understood and mitigated against going forward. That’s good for them. That means that they have a better understanding of their forward risk profile," Brownlee said.
The end of EQC?
The whole episode of Christchurch had highlighted the both the strengths and weaknesses of EQC, English said, with the government going to review the disaster fund when issues in Christchurch died down.
“When the time’s right we would examine whether that’s the right framework to continue with," English said.
“As we brake the back of the situation in Christchurch, we’ll be moving to consider, along with the insurance industry,...whether the EQC framework worked well when it was severely tested. But we’re not going to pre-empt those issues – all I’m saying today is we wouldn’t rule out any consideration, any particular proposition in future,” he said.
See the release from English:
The Earthquake Commission (EQC) has increased its estimated Canterbury earthquakes liability by about $4 billion to $7.1 billion, Finance Minister Bill English says.
The new estimate follows an actuarial valuation of EQC's liability, based on available field assessments of damage claims. It includes an increase of $2.17 billion from the 22 February earthquake and $1.42 billion from the 13 June earthquakes and other aftershocks, which were not previously included.
"The Government is committed to rebuilding Christchurch and supporting the people of Canterbury," Mr English says. "Today's announcement will not affect homeowners' claims, which EQC will continue to pay in full. And it will not delay rebuilding in Christchurch.
"EQC can meet most of these costs through the Natural Disaster Fund, which held about $6 billion before the first earthquake. The Government, through its guarantee under the Earthquake Commission Act, will meet any shortfall. EQC also has reinsurance in place to help meet the cost of any future events.
"Despite the increased liability, which will have a one-off impact on the Government's operating balance for the 2010/11 year, the Government remains on track to meet Budget forecasts of a return to surplus in 2014/15 and to keep net debt below 30 per cent of GDP," Mr English says.
EQC's initial liability estimates were based on international models for calculating damage from single events. While these hold for the 4 September earthquake, they were not designed to calculate the effects of multiple events.
"Quite clearly the scale of residential damage from the 22 February earthquake has been worse than initially thought, with more claims, more damage on a house-by-house basis and greater land damage than expected.
"For example, it was initially thought 12,000 houses would have more than $100,000 in damage. As EQC has completed more detailed assessments, this number is now estimated to be about 30,000 houses.
"Damage to land was initially estimated at between $300 million and $600 million. This has increased to $1.8 billion."
The new estimated liability will be reflected in the 2010/11 Crown accounts, which will be published in October. Current indications suggest the higher EQC liability will be partially offset by higher than forecast tax revenue and lower than forecast costs in other areas.
Combined, these factors are likely to push the operating deficit before gains and losses up to about $18 billion - $1.3 billion higher than the Budget forecast. However these figures have not yet been finalised or audited.
"We need to remember these are still estimates and EQC and the Treasury will continue to periodically revise the expected liability as more claims are completed and more information becomes available.
"At the time of the Budget, Treasury put the total earthquake damage bill – to all property owners and insurers - at $15 billion, or about 8 per cent of GDP, making it the worst natural disaster in recent memory to hit a developed nation – relative to the size of its economy.
"The Government has asked Treasury to update this estimate based on new information available since the Budget," Mr English says.
And here's Brownlee's release:
Canterbury Earthquake Recovery Minister Gerry Brownlee says Cantabrians affected by the past year’s seismic events and all other New Zealanders should have no concerns about their Earthquake Commission (EQC) claims being settled in full.
His assurance follows today’s announcement that the EQC has revised its estimated Canterbury earthquakes liability upwards by about $4 billion to $7.1 billion. "EQC’s fund is government guaranteed to protect claimants’ interests," Mr Brownlee said.
"Earlier this year EQC renewed its reinsurance, which means the country is adequately covered in the case of further major events.
"EQC contents, building and land claims in Canterbury will continue to progress at pace, as will EQC’s full inspection programme – claims will continue to be paid out."
Since 4 September last year EQC has received more than 388,000 claims for all the earthquakes, one of the highest numbers ever handled by a single insurer in the world. The previous biggest event for EQC was the Gisborne earthquake in 2007 with 6224 claims.
The Canterbury and Christchurch earthquakes are likely to rank globally as the fourth most costly for insurers since 1970 after Northridge, California, in 1994, the 9.0 earthquake and tsunami disaster in Japan in March this year, and Kobe, Japan, in 1995.
Ratings agency Standard & Poor's affirmed EQC's ratings, based on the government's willingness to back it.
Melbourne, Aug. 30, 2011—Standard & Poor’s Ratings Services said today that its ratings on the New Zealand government-owned Earthquake Commission (EQC; AAA/Stable/--) are unchanged following the EQC’s increased estimate of liabilities associated with the earthquakes in the Canterbury region. The ratings on the EQC are equalized with those of the New Zealand government (foreign currency AA+/Negative/A-1+; local currency, AAA/Stable/A-1+), reflecting Standard & Poor’s opinion that there is an ‘almost certain’ likelihood that the New Zealand government would provide timely and sufficient extraordinary support to the EQC in the event of financial stress.
The EQC has increased its estimated exposure to the Canterbury earthquakes by about NZ$4.0 billion to a total of NZ$7.1 billion, net of reinsurance recoveries. The increase follows an updated actuarial valuation, as well as the inclusion of estimated costs for the June 13 event and other aftershocks. We understand these estimates are still subject to change as more information becomes available. While we believe that the EQC’s stand-alone creditworthiness has materially deteriorated, we expect the entity to meet most of the revised costs through its own funds, which were in excess of NZ$6.0 billion prior to the first earthquake. We believe any shortfall will be met by the EQC calling on its government guarantee.
The EQC ratings continue to reflect the ratings on the New Zealand government (local currency). While there is uncertainty as to the future structure and capitalization of the EQC, we believe the EQC will remain very strongly supported by the government. The EQC ratings are capped by the sovereign’s local currency rating, and would therefore be lowered if the local currency ratings on the sovereign were lowered, or if our view on the likelihood of extraordinary government support reduced.
We are working through the implications of these revised estimates on the Crown’s operating balance and projected debt profile, and we do not have anything to add to our previous comments on New Zealand’s credit quality. The ratings on New Zealand reflect our opinion of the country's fiscal and monetary policy flexibility, strong institutions, economic resilience, and actively traded currency. New Zealand's credit quality is weakened by its high external liabilities, despite some deleveraging in recent years.
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