EU Insurance Solvency Regulation and Recent Developments

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• EU Insurance Solvency Regulation and Recent
  Developments
• ALM Workshop, Vilnius, 16 April 2004
• Ulf Linder, European Commission

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Outline of presentation

• Introduction - The current EU solvency system
• Solvency II introduction and general principles
• Solvency II, the international setting and
  certain overarching issues
• Asset management and ALM further Solvency II
  work
• Next steps time perspective

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1. Introduction The current EU solvency system

• Overview of current requirements on insurance
  assets and insurance liabilities
• Rules for establishment of technical provisions
• Requirements for assets to cover technical
  provisions
• List of admissible assets to cover technical
  provisions
• Rules for investment diversification
• Rules for currency matching
• Solvency margin requirement Minimum guarantee
  fund

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2. Why Solvency II?

• Müller report (1997) and Solvency I
• Increased competition/pressure of shareholders
• Now fall of stock markets low interest rates
• Convergence between sectors financial
  conglomerates
• Developments of risk analysis methods
• International developments (IAIS IAS)

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Solvency II objectives

• Fundamental review of EU insurance prudential
  framework
• Create a prudential framework more appropriate to
  the risks facing insurance companies
• Take into account the different needs for
  harmonisation (European level, international
  level, convergence of financial sectors)

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Solvency II objectives

• Incentives for companies to know and manage own
  risks
• Open and transparent project

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Solvency II general principles

• Towards a Basle-type 3 pillars structure
• 1st pillar quantitative requirements
  (provisions, investment risk, capital
  requirements)
• 2nd pillar supervisory review process (not much
  in the current directives, supervision of groups)
• 3rd pillar market discipline (disclosure)
• Consistency between sectors
• we will identify the areas where quantitative
  standards must be similar

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Solvency II Pillar I

• Technical provisions (based on IASB)
• non-life
• quantitative benchmark (75? 90?)
• life
• risk free market rate for discounting
• adequate prudential margin/resilience test
• valuing embedded options/guarantees
• Clarify the role of capital requirements
• create a regulatory notion of "target capital" /
  economic capital / standard model
• use of internal models / partial models
  (incentives)
• safety net capital

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Solvency II Pillar 2

• Internal control and risk management
• develop internal control principles
• develop principles for sound risk management
• undertakings should draw up plans for
• investment policy
• asset-liability matching
• reinsurance programme
• fair attitude to policyholders

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Solvency II Pillar 2

• Supervisory Review process
• harmonise at EU level but still allow tailoring
  to individual companies
• common framework for corporate governance
• early warning indicators, stress tests
• not static, assess ongoing position, continuity
• supervisory convergence
• minimum criteria for on-site inspections

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Solvency II Pillar 2

• coordinated supervisory action in times of crisis
  (dangers of forced selling, pro-cyclicality)
• intervention powers and responsibilities defined
• transparent supervisory action (criteria publicly
  disclosed)
• peer review process

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Solvency II Pillar 3

• disclosure reinforces market mechanisms and
  risk-based supervision
• coordinate reporting burden (ECOFIN wish to
  reduce administrative burden)
• BUT
• difficult
• disclosure can aggravate problem

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Solvency II Current status of work

• 2000 Project launched
• Phase 1 the design of the system
• Phase 2 technical detailed rules filling the
  structure
• 2003 decision on the general direction of the
  work
• 2004 preparatory work to outline detailed work,
  preparation of a draft directive
• The new documents 2543 and 2502 deal with
• Organisation of work
• Overarching issues
• Detailed pillar 1 technical questions
• Pillar 2 drafts

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3. International context and overarching issues
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Overarching issues

• Accounting environment
• IAIS standards/IAA material
• Elements related to the prudence level

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3.1 Accounting environment

• IASB developments should be taken into account
  difficulties
• How other solvency projects addressed the
  accounting linkage (incl. IAIS)
• IASB phase 2 is the reference point
• Compatibility with the expected outcome of IASB
  project
• Adjustments and additions for supervisory
  purposes
• Current accounting solutions?

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3.2 IAIS standards (IAA material)

• The Solvency II system should be compatible with
  IAIS principles, standards and guidance
• Furthermore, the wording of the Framework
  Directive could be inspired by IAIS Core
  Principles
• Openness to use IAA standards and material

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3.3 Issues related to the prudence level

• Uniform level of prudence across the EU
• Overall prudence (target capital level)
• Defined prudence in the technical provisions
• Total balance sheet approach

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4. Solvency II Further work on asset management
and ALM

• General starting points
• Investment risk will be taken into account in the
  target capital calculation
• prudent person approach
• Certain safety measure rules will remain
• The new target capital requirement should be
  covered by appropriate assets globally in the
  same way as technical provisions

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Asset-liability management

• Crucial for life insurance, important also for
  non-life
• Requirement that companies should have an ALM
  system
• ALM as investment planning in pillar I
• ALM as part of the supervisory review process in
  pillar II

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Different functions of ALM

• CEIOPS will be asked to look into the following
• ALM and investment planning
• ALM for quantitative analysis in pillar II
• ALM as risk management tool
• ALM for internal modelling
• The integration of ALM in the management and
  control processes

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5. Next steps time perspective

• Further working papers in 2004
• Requests for further work for CEIOPS
• Drafting of a Framework Directive
• Timing is linked to other international projects
  
• Preparation of a timetable together with CEIOPS
  when the requests are further advanced
• If all goes well, a new principles directive
  proposal could be ready towards the end of 2005
  and supplementing technical measures sometimes
  2007-2008

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• Ulf Linder, Administrator
• Insurance Unit
• Internal Market DG
• European Commission (C107 1/58)
• B-1049 Brussels, Belgium
• ? 32-2-299.22.76
• Fax [phone]
• E-mail ulf.linder_at_cec.eu.int
• Internal Market DG / Insurance website
• http//europa.eu.int/comm/internal_market/insuranc
  e/index_en.htm