"This Congressional Budget Office (CBO) paper analyzes proposals for federal reinsurance of risks from terrorism. The September 11 attack on the World Trade Center had three important effects on property and casualty insurance. It imposed severe losses on insurers; it indicated heightened risks from terrorism; and it created substantial uncertainty about those risks. Although the financial losses are unprecedented, most insurers are able to absorb those charges and pay insured claims. And, in a few years, the industry is likely to recover fully. Since September 11, a sharp reduction in the availability of property and casualty insurance has been reported, and the pace of economic activity appears to have declined. To avoid an overreaction to the uncertainty and a contraction of economic activity, the Congress is considering proposals to increase the supply of insurance against losses from terrorism by taking on a large portion of the primary insurers' risks (through reinsurance). In the proposals the Congress is now considering to increase the supply of terrorism insurance, the government would be taking on most of the short-term risks. The Congressional Budget Office offers three observations that may be useful in evaluating and modifying those proposals. First, some evidence suggests that the current disruption in insurance markets is temporary. Second, a temporary federal reinsurance program could reduce the short-term effects on the economy of the current reduction in the supply of insurance, even if such a reduction was not permanent. Third, the downside of federal efforts to increase the supply of insurance is that they would probably retard the private sector's adjustment to the increased risks and preempt a long-term increase in the supply of private insurance."
Congressional Budget Office: http://cbo.gov