Parametric earthquake insurance

Parametric earthquake insurance is cover that pays on the physical parameters of an earthquake published by an agency rather than on assessed damage. Magnitude 7.5 or greater, hypocenter shallower than 70 km, epicenter inside a polygon drawn around the capital: that is a first-generation earthquake trigger, the cat-in-a-box. The variables come from an agency named in the contract, usually the U.S. Geological Survey (USGS), sometimes the national seismological service, and each box on the map carries its own threshold. A quake inside the box above the threshold pays; one six miles outside the edge pays nothing, even if it shakes the city harder. The second generation reads ground motion at the exposed locations, peak ground acceleration (PGA) or Modified Mercalli intensity, taken from a map such as ShakeMap, and weights each site by its value. Basis risk goes down and the mechanics get harder, because the map is revised over the following days and the contract has to say which version governs and on what date it is frozen. Earthquake suits parametric well. Parameters are published within minutes by institutions with no stake in the contract, and the link between shaking and damage is better modeled than it is for flood. What the index misses still matters: a tsunami, soil liquefaction, fire following, or a moderate quake right under a poorly built city. Buyers are governments and cities that want cash before reconstruction starts, infrastructure operators, corporates whose sites cluster on a single fault, and insurers covering part of their retention. The structure is written as a policy, as reinsurance and as a cat bond, and the World Bank has placed it for several Latin American countries, Mexico, Chile and Peru among them.