The term "retrocession" is used in two very different ways. In the financial world, it refers to a situation in which one firm which specializes in reinsurance agrees to take on some of the risk for another reinsurance company. This is designed to reduce risk by spreading it out, reducing the liability burden for insurance companies. The term can also be used to refer to the ceding of land, usually involving the return of land to the original owner.
Reinsurance is an important part of the financial industry. Insurance companies which provide insurance to individuals and companies take on a great deal of risk when they write their insurance policies, especially if a natural disaster strikes and an insurance company is forced to pay out a lot of claims at once. With reinsurance, part of the risk is taken on by another insurance company, with the initial insurance company essentially buying insurance to protect it in the event of a major catastrophe.
However, reinsurance companies also put themselves at risk by offering insurance to insurance companies. As a result, many engage in retrocession, distributing the risk so that in the event that claims need to be paid out, there will be funds available to do so. Retrocession is especially common in areas prone to natural disasters like hurricanes and earthquakes, as it may not be able to provide insurance without reinsurance and retrocession to spread the risk.
On occasion, a reinsurance company can accidentally reinsure itself, in a process known as spiraling. This occurs when insurance products are traded and moved so many times that companies start to lose track of their origins, much as frequently traded derivatives can become problematic in the financial sector. Spiraling is especially common in niche insurance markets where only a limited number of companies offer insurance in the first place.
In the case of a ceding of land or territory, retrocession is quite rare. It can be the result of a treaty or political agreement, or be forced through political agitation. With retrocession, territory is returned to the original owner and claims on the territory are abandoned. A notable example of retrocession in this sense can be seen in the ongoing debate over the legal and political status of Washington, DC in the United States, with some people proposing that the land be retroceded to Maryland so that DC residents can have the benefit of a representative in Congress.
