How the Catastrophe Bond Market Is Supporting Financial Resilience in Jamaica

December 22, 2021

On September 10, 2004, Hurricane Ivan devastated Jamaica with its Category 4 winds and rain causing more than US$350 million in damages and taking the lives of 14 people. The scene is far too common, not only in Jamaica but more broadly in the Caribbean, a region notorious for its vulnerability to natural disasters. While governments are getting better at preparing for the economic and human impact of these storms, the ever more serious effects of climate change are making these threats increasingly frequent and intense.

It’s an unfortunate reality that these storms will happen again. For Caribbean countries like Jamaica, it’s important to be financially prepared before they strike. Pre-arranged financing cannot stop hurricanes from wreaking havoc, but it can help a country provide immediate support to the poor and vulnerable, as well as rebuild critical infrastructure. Emergency funds and pre-arranged loans are often the cheapest way to finance disaster relief and recovery. However, it’s neither cost-effective nor feasible for small islands to set aside hundreds of millions of dollars. Instead, countries can build resilience by insuring themselves to lessen the impact of disasters. This is one of the innovative approaches that Jamaica has forged ahead with. Here’s how they did it.

Jamaica's disaster risk financing strategy

First, Jamaica created a national public policy on disaster risk financing. With support from the World Bank and financing from the UK, the policy aims to improve the financial resilience of Jamaica through pre-arranged financing instruments and includes a contingency fund, contingent credit, and catastrophe insurance from the Caribbean Catastrophe Risk Insurance Facility (CCRIF). While this protected Jamaica from smaller, less severe disasters, the country would still experience large financing gaps if severe hurricanes like Ivan occurred.

Through a World Bank issued catastrophe (cat) bond, Jamaica--together with development partners in the US, the UK and Germany--addressed this financing gap by securing US$185 million worth of insurance coverage for three hurricane seasons. By entering into an insurance-like risk transfer agreement with the World Bank, the Government of Jamaica can quickly receive much needed funds if future storms exceed pre-defined intensity thresholds . The World Bank issued a cat bond to investors with terms that mirror those of the risk transfer agreement. If payouts are triggered, the cat bond principal is reduced by this amount. This win-win approach is good for Jamaica since the cat bond transaction generates much needed financing without raising already high debt levels, and good for investors since they earn a coupon to compensate them for taking on the catastrophe risk. At maturity any remaining bond principal is returned to investors by the World Bank.

Jamaica Cat bond grid structure

The payout triggering mechanism was developed by a specialized risk modeling firm, in collaboration with lead managers of the transaction, the World Bank, and the Government of Jamaica, and includes a grid structure with 19 areas on and around the island of Jamaica (see image). A payout is triggered if a storm passes through one or more of these areas and the central pressure of the storm is at or below specified intensity thresholds. With this approach, payouts can be made quickly – within weeks of a storm – which will facilitate and greatly enhance Jamaica’s emergency response.

So why go through organizations like the World Bank for this approach? The World Bank is an effective issuer of cat bonds for the benefit of its sovereign members thanks to its experience and reputation in the capital markets, its AAA credit rating, and its uniquely flexible capital-at-risk notes program that facilitates risk transfer solutions using capital markets. Credit rating agencies recognize that a comprehensive disaster risk financing strategy improves fiscal resilience. This cat bond transaction adds a significant protective layer against potential negative impacts on Jamaica’s sovereign credit risk following a catastrophe event. Overall, improved credit-risk assessments can translate into lower and more stable funding costs for countries.

Despite being in one of the most disaster-prone regions of the world, Jamaica is building resilience by preparing for these threats in advance . Innovative approaches like this cat bond will help the country rebuild quicker and stronger. If Jamaica had this coverage in place when Hurricane Ivan struck, they would have received a $185 million payout offsetting a substantial portion of the damage. While financial solutions like these cannot save lives or buildings, they can provide quick relief when it is most needed in order to rebuild critical infrastructure in the aftermath of a disaster. Moving forward, the World Bank will look to support even more Caribbean countries by offering the same type of financial protection and enhanced risk diversification that Jamaica has through the design of a regional CAT bond.

This blog was first published on The Jamaican Observer and WBG Blogs.

Carlos Felipe Jaramillo

Vice President for Latin America and the Caribbean

World Bank Group

Carlos Felipe Jaramillo is the World Bank Vice President for the Latin America and the Caribbean Region, overseeing Bank relations with 31 countries and a portfolio of ongoing projects, technical assistance and grants of almost US$32 billion. Under his leadership, the Bank’s operations in the region focus on fueling growth, reducing poverty, supporting equality and protecting the environment. Jaramillo was previously the World Bank country director for Kenya, Rwanda, Somalia and Uganda, based in Nairobi. There he managed an operational portfolio of more than 80 projects representing a total investment of more than US$12 billion to help countries share and apply innovative knowledge and solutions to the challenges they face. Prior to his role in Africa, Jaramillo was the senior director of the World Bank Group’s Macroeconomics, Trade and Investment Global Practice (MTI), where he led a global team of more than 450 economists. Since joining the World Bank in 2002, he has also served two terms as country director in the Latin America and Caribbean Region. Before joining the Bank, Jaramillo was a public servant in the Government of Colombia, holding offices in the Ministry of Finance, the Central Bank and the Ministry of Trade. Jaramillo holds an M.A. and a Ph. D. in development economics from Stanford University. He has taught at the Department of Economics of the Universidad de Los Andes in Bogota and at the University of Maryland, College Park.

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CO-AUTHORS

Jingdong Hua

Vice President and Treasurer

World Bank Group

Jingdong Hua is Vice President and Treasurer of the World Bank. He also serves as the Pension Finance Administrator of the World Bank Group. As Vice President and Treasurer of the World Bank, he is responsible for the capital markets operations and oversees an annual funding program of US$60 to 70 billion through debt issuances of IBRD and IDA. He leads a global team of capital markets professionals in the prudent management of US$200 billion debt portfolio; US$170 billion asset portfolio managed for the World Bank Group and over 70 clients. He heads the World Bank Treasury’s capacity building, advisory and capital market intermediation services in financial analytics, asset management, and financial solutions for its clients. As Pension Finance Administrator of the World Bank Group, he supervises the investment and administration of the World Bank Groups pension plans—with US$30 billion assets under management invested in a diverse pool of asset classes including fixed income, public and private equities, real estate and alternatives. Mr. Hua was previously Vice President and Treasurer of IFC, where he established a global treasury and focused on the development of local currency debt capital markets and innovative financial products and solutions. During his tenure, IFC has significantly increased its local currency financing capacity to benefit private sector clients. He led market-opening and innovative bond issuances and structured financial products in emerging markets including Rwanda, Nigeria, Indonesia, Colombia, Uzbekistan, and India. He also significantly enhanced IFC’s loan syndications and co-investment program which has mobilized over US$60 billion for private sector development. Prior to IFC, Mr. Hua served as Deputy Treasurer at the Asian Development Bank (AsDB) in Manila. He previously held various positions in the treasury departments of AsDB, the United Nations Development Program (UNDP) in New York, and the African Development Bank (AfDB) in Abidjan. A Chinese national, he started his career in 1983 with China National Chemical Construction Corporation. He holds a B.S. in Chemical Engineering from Qingdao University of Science and Technology, an MBA Finance from the University of Texas at Arlington and a Master of Public Administration (MPA) from Columbia University.

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