Best’s Special Report Analyzes EU’s Solvency II Impact on Ratings

March 8, 2011

A report from A.M. Best Co. provides a timely analysis of the fast approaching implementation of the European Commission’s long-awaited Solvency II insurance regulations, which are now scheduled to come into force as of for January 1, 2013.

Best noted that the EC’s current emphasis is on “shifting the focus from its quantitative impact to the specifics of the implementation.” It has therefore “issued a series of documents providing for the implementation of Solvency II, while the European Insurance and Occupational Pensions Authority (EIOPA), evaluates the regulatory equivalence of selected national supervisory regimes. The impact of these developments on the state of the (re)insurance industry is likely to extend far beyond the mere quantum of additional required capital,” said Best.

The rating agency explained that its “analysis of insurers will continue to be based on the assessment of both the group’s overall and stand-alone risk-adjusted capitalization, based on A.M. Best’s proprietary capital model (BCAR).

“In the analysis, capital available for transfer to operations that may need it can be reduced because of increased regulatory capital requirements in one regime. In this respect, the role of EIOPA in the supervision of insurance groups, combined with the evaluation of non-European Union (EU) regimes as equivalent, could impact insurers’ ratings.”

Best also noted that “EIOPA’s role in the supervision of cross-border insurance institutions, together with increased recognition of the position of group supervisor, has implications for the regulation of insurance groups operating within the EU and is expected to result in greater fungibility of capital under Solvency II. This will not have a direct impact on A.M. Best ratings but will strengthen confidence in the application of the new regulatory regime across member states.

“Potential lack of regulatory equivalence will have the opposite effect as it will ultimately result in reduced fungibility of capital between units of international groups. It is likely to result in increased capital requirements of groups operating in both the EU and third-country regimes.

“It is unlikely that the reduced capital fungibility will result in negative rating actions, given the current capitalization levels of these groups.”

However, Best also pointed out that the “side effect of the lack of equivalence will be the revision of existing business models. The lack of fungibility of capital and the revision of business strategy could have negative rating implications on the overall group, depending on the importance of the subsidiary transacting the business.

“The reasonable application of transitional periods will reduce market disruption due to the implementation of Solvency II, and as such will reduce any negative implications for A.M. Best ratings. A.M. Best’s view on risk-adjusted capitalization will not change because of the implementation or not of the transitional periods, but they are expected to facilitate a smoother transition into the new regime.”

Source: A.M. Best

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