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The nuclear power challenge is different today than it was two years ago. Once, the risk of nuclear disaster was rare, albeit extremely costly. Sept. 11, 2001, changed all that. The threat of deliberate attack now weighs heavier, highlighting the inadequacies of a liability framework that even prior to Sept. 11 could not ensure adequate coverage for third-party damage caused by nuclear disasters. Governments around the world, individually and collectively, have established laws and agreements to hold nuclear operators liable. In the United States, for instance, the Price-Anderson Act imposes strict liability for nuclear incidents, but limits that liability to $9.4 billion. Insurance companies have tried to offer insurance to cover such risks. But terrorism could overwhelm current systems. THE WORLD VIEW Internationally, two major treaties provide for assessing nuclear civil liability. The 1960 Paris Convention on Third Party Liability and its supplementary 1963 Brussels Convention were drafted under the auspices of the Nuclear Energy Agency, an agency within the Organization for Economic Co-operation and Development (OECD). The Paris Convention imposes absolute liability on plant operators, sets a maximum on liability awards, requires operators to carry insurance to cover liability, and resolves that jurisdiction lies in the country where an accident occurs. The Brussels Convention provides for compensation where liability coverage under the Paris Convention proves inadequate. The 1963 Vienna Convention on Civil Liability for Nuclear Damage was drafted under the auspices of the United Nations-affiliated International Atomic Energy Agency (IAEA). The Vienna Convention parallels the Paris Convention in all major areas addressed, but broadens liability to include economic, environmental, and preventive damage and raises compensation limits. A 1992 joint protocol combined the Paris and Vienna Conventions. In September 1997, the IAEA countries also agreed on the Convention for Supplementary Compensation, a U.S.-sponsored instrument designed to integrate parties to the two conventions and countries with national liability legislation into a single worldwide liability regime. Under Article 3 of the Paris Convention, the operator of a nuclear installation is liable for all damage caused to persons or property, although not to the installation itself. Under this strict liability framework, the operator cannot escape liability regardless of his conduct. Furthermore, under the conventions and the Price-Anderson Act, exceptions to strict liability do not include acts of terrorism. INSURERS POOL TOGETHER The absence of empirical data makes it difficult, if not impossible, to estimate the potential magnitude and resulting costs of nuclear catastrophes. For a high enough price, it is likely that any risk could be covered by an insurer. However, the industry principle that premium income should suffice to cover claims is impractical where nuclear coverage is concerned. For this reason, no single national insurance market, much less an individual insurer, could possibly underwrite insurance for a country’s nuclear power industry. Instead, there are at least 30 nuclear insurance pools worldwide. These pools, usually organized by country, offer nuclear insurance and reinsurance. Every major insurer participates in a nuclear pool, and every pool participates in each major risk. Thus individual insurers not only spread their own risks, but also tap into the resources of the world’s insurance markets. A pool either issues a policy in its own name and collects premiums that are distributed to member companies, or uses a fronting company to issue the policies. Each member of the pool declares the amount of risk it will assume per category of business. Taken together, these amounts represent the total capacity of the pool, which is apportioned out in terms of premiums and claims to the companies. As noted, the magnitude of risk under which a single policyholder may operate will always exceed even the capacity of national pools. Thus, national pools reinsure each other. Even reinsurers seek to protect their exposure with reinsurance. In the event that a major loss occurs and reinsurance for some reason cannot be collected, members of the sponsoring pool must pay more than their anticipated share. Considering the significant harm that could result from a nuclear incident, the market offers a relatively small amount of insurance coverage. Despite risk pooling, there are still inadequate funds available for third-party damages. And the response of nuclear insurers to recent events raises the question of whether today’s insurance market would be able to absorb catastrophic-level risks. Insurers of nuclear facilities reacted in various ways to Sept. 11. For example, the Swedish nuclear pool’s initial reaction was to terminate coverage of terrorism risks, but it reinstated coverage a few weeks later. The U.S. nuclear pool continued coverage, but set an industry-aggregate limit of $200 million and increased its premium by 20 percent. Some insurers are now developing self-insurance schemes that cover only nuclear terrorism risk, while others have turned to their governments for reinsurance or additional indemnity. OTHER ANSWERS There are other options to traditional insurance. One alternative to pooling by insurers is pooling by plant operators. In such a risk-sharing agreement, each nuclear operator would have individual liability coverage, but if the damage exceeded this amount, each participant would have to provide a pro rata share of indemnity up to a certain amount per reactor. The Price-Anderson Act essentially creates such a risk-sharing arrangement. A similar scheme has been suggested for nuclear plants in OECD countries in Europe. However, it would require that national governments guarantee a significant part of the compensation available in case of a nuclear accident. A related concept is an industry captive insurer that would cover only terrorism risk. A similar concept is already being developed in the airline industry. Given the inadequacy of any kind of risk pooling to cover that top speculative layer of risk, experts have also recommended other ways to harness private sector resources. Two recommendations are worth noting: (1) hedge funds and other entities that manage capital portfolios on a large scale and (2) options-type instruments. A group of insurers could issue $100 billion in catastrophe bonds, which would provide principal for damage compensation above what insurance and pools could afford. Like holders of junk bonds, the catastrophe bond holders would be compensated through higher interest rates. The funds obtained would be placed in government bonds, with the nuclear industry responsible for the annual difference in interest rates. Commodity and currency exchange instruments, such as options and futures, could also protect against the risk of nuclear-related disasters. One type of insurance derivative, so-called act of God bonds, ties the return payment of the investment to the occurrence of certain events. Financial products dealing with catastrophic risks are already sold in New York’s Catastrophe Risk Exchange. The issues confronting insurers and reinsurers of the nuclear industry in today’s uncertain security climate raise important questions for the energy sector in general. The potential magnitude of catastrophic damage and its attendant liabilities for the nuclear industry may be greater than those in other areas of power generation and distribution. Yet concerns faced by nuclear operators in the area of third-party liability are highly relevant to other power industries. The threat of terrorism offers yet another layer of analysis for players in the energy field. Marybelle C. Ang is an associate in the D.C. office of Baker Botts. She focuses her practice on domestic and international energy issues. Ang can be reached at [email protected].

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