The Caribbean and small island nations are at the frontline of climate change. On average, small and midsize countries decrease their GDP growth by approximately 4.0% for the five years following a major natural disaster. Even though a lot of progress has been achieved in terms of risk mitigation throughout the last decade throughout the world, there is still a long way to go and Latin America is leading the way for the developing world. As part of the region’s climate risk mitigation and recovery policies, national governments have restarted their buildup of fiscal cushions against shocks. Based on the regional experiences of the last decade, these preventive policies take into consideration factors such as drops in commodity prices as well as natural disasters.
Risk Planning and Contingency Management in Latin America
Throughout the Caribbean region in particular, a major political effort is behind the rethinking of infrastructure development and building codes in order to make structures more resistant to hurricanes. In this regard, the World Bank is one of the leading international institutions when it comes to assessing the impact of natural disasters throughout the Caribbean and helping countries implement new policies. In order to mitigate future risk and increase national resiliency, one of the key policy measures is increasing the rigor of transparency laws, which minimizes the misuse of resources and helps ensure best practices. Moreover, governmental and economic transparency are coupled with the importance of maintaining a strong fiscal position through budget responsibility.
Another key element to mitigate both climate and market risk in a country is to diversify the national economy. By hedging on a wide spectrum of economic sectors, such as commodities extraction, tourism, manufacturing, agriculture, and services, national economies will be better prepared to cope with the potential collapse of one particular sector and will also be able to recuperate more quickly after a catastrophic event. Likewise, countries with higher likelihood of specific natural disasters, such as hurricanes in the Caribbean or earthquakes along the Pacific Rim, should set aside particular funds, with a specific budget as a percentage of GDP, to deal with the aftermath of such events.
As a response to the growing social and economic impact of natural disasters, countries such as the island nation of Grenada have started to incorporate a hurricane clause into their international debt contractual obligations, which defers or cancels the payment in case of a natural catastrophe. Similarly, the issuance of Catastrophe Bonds or CAT has substantially increased throughout Latin America. Catastrophe Bonds are a high-yield global debt instrument, which is meant to raise capital as insurance for a major natural disasters, such as earthquakes. Therefore, CAT issuers pay investors their interest, but in the event of a natural catastrophe the interest and principal payments are either deferred or entirely forgiven. Earlier this year, the Pacific Alliance countries, Mexico, Colombia, Chile, and Peru, launched the first-ever regional CAT bond with the help of the World Bank for a total of US$1 billion.
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