A new study called for the establishment of an Emergency Financing Facility (EHFF) for the European Union (EU) health sector, with the securitization of emergency health risks in the form of catastrophe bonds being seen as a viable financing solution.
The research study conducted and published by Professor David Veredas, Professor Simon Ashby and PhD student Dimitrios Kolokas of Vlerick Business School suggests the need for financial structures to support European Union health care.
The COVID-19 pandemic caused financial and economic crises, but these did not affect the extent of the public health crisis that the pandemic triggered.
COVID-19 has caught the world’s institutions off guard, and while we don’t know when the next health crisis might occur, research shows that the pandemic definitely won’t be the last.
The experience of the pandemic and to be prepared for the next emergency in the health care system: “The EU needs effective and uniform rules for responding to health emergencies and for cooperation between the Member States. It also takes a substantial financial cushion to increase funding quickly and predictably, ”explain the researchers.
They propose the creation of an Emergency Financing Facility (EHFF) for Europe, which they believe should complement existing structures in the EU without jeopardizing the EU budget or the public finances of the Member States.
Existing EU and Member State institutions will face serious financial burdens in the coming years given the cost of responding to the COVID-19 pandemic.
As a result, researchers propose a structure that uses capital markets as a source of funding for the proposed European Emergency Finance Facility (EHFF), with the insurance-linked securities (ILS) structure being seen as a viable tool to underpin it.
They propose a “new level of financial innovation” to enable health hazard securitization in the form of fixed income securities sold to institutional investors.
These catastrophe bonds are intended to transfer not only the pandemic risk but also the general health risk to the capital markets and use the institutional appetite to finance the EHFF facility.
The proposal provides for the EHFF facility to be structured in such a way that, among other things, funds are made available for the ramp-up of medical care, test kits, building infrastructures and sudden increases in staff.
In addition, it is intended to complement existing EU institutions and structures such as the RESEU and the emergency aid instrument.
In particular, the researchers believe that a centralized health risk funding facility “could improve cooperation and solidarity within the EU, which is essential to overcome the effects of a systemic health emergency without putting a strain on Member States’ finances”.
David Veredas, Professor of Financial Markets at Vlerick Business School and co-author of the proposal, explained in greater detail: “The last systemic crisis was in 2008-2011 and brought several EU countries to the brink of insolvency. Existing structures were insufficient to avert a disaster; lessons were learned and regulations were enacted to prevent this. We must do the same with this crisis if we are currently experiencing it, as this time the scale is even greater as the focus is on public health.
“The current EU systems to deal with this emergency are insufficient and have not worked efficiently. The crisis will be resolved with an unprecedented EU debt fund and the largest EU budget ever. In order to prevent Member States from being completely overwhelmed by this crisis, both healthily and economically, we need to learn from our mistakes and put in place a funding facility for future crises. “
The EHFF would be a tool for health risk management that provides liquidity exactly when it is needed. The payouts are triggered by health emergencies, such as future pandemics.
The idea is to make it so compelling that all EU member states join given the safety net an EHFF would create for them. Shared costs and benefits make joining a member more useful than paying for health emergencies alone.
Catastrophe Bonds linked to EU health risks would be the proposed financial instrument to support the EHFF facility.
Obviously, the ILS market has some experience of such an instrument, derived from the World Bank’s catastrophe bond, which underpinned part of the funding of its Pandemic Emergency Financing Facility (PEF).
The Emergency Health Financing Facility (EHFF) for the European Union (EU) health sector would cover a wider range of risks, so it would need to be equipped with triggers that could capture different types of health emergencies, including a pandemic.
There would of course be an element of correlation as any major health emergency in the EU would likely experience some form of financial market volatility.
Institutional investors, however, have an appetite for these types of structures, and the use of the catastrophe bond or insurance-linked securities (ILS) as a means of providing the necessary funding could make it imperative for insurance and reinsurance firms to get involved too.
Parametric triggers are suggested as the most appropriate and this would not be unknown to EU member states as the European Commission already uses trigger criteria for emergency funds.
By pooling the emergency risks of health insurance, the EU could then procure reinsurance financing for them through the ILS market, with instruments triggered by specific emergency declarations and related health statistics.
This is another interesting proposition to leverage the risk transfer and funding efficiency of capital markets reinsurance instruments like the Cat Bond to support the world’s largest exposures.
The need to be able to respond quickly to health crises has been made clear by the pandemic, and liquidity and funding are critical to making this possible.
The full policy paper is available here on the Vlerick Business School website (fill out the form at the bottom of the page).
