“Over the next 18 months it’s estimated that Ireland will spend 100 million euros (app. $125 million) on preparations for Solvency II (SII),” said Garvan O’Neill, a partner in PricewaterhouseCoopers’ financial services practice, who headed a panel discussion on the pending regulations at the European Insurance Forum in Dublin.
EU insurers have been faced with complying with the multiple mandates of SII for nearly 10 years, and there’s still a great deal to be done, as over the next 18 months insurers “convert theory to practice, assess the impact [of SII] on their business and embed risk management procedures,” O’Neill said.
The date for at least the implementation of SII’s first two “pillars” – imposition of capital models more aligned with levels of risk, and greatly extended risk management requirements – are now set to go into effect as of January 2014. The third pillar – increased transparency and reporting – will be phased in more gradually.
The task of rewriting the regulations governing EU insurers has proven to be far more difficult than originally foreseen. Shirley Beglinger, a former managing director at Swiss Re, who has written widely on the subject, explained that SII is “basically addressed to the life insurance industry, as P&C (or non-life) is ‘too difficult’ for them [regulators] to understand.” The rules “were written as the financial world was blowing up,” she added. They “anticipate a worst case scenario.” The life insurers were the principal driving force – through batteries of actuaries, accountants and lawyers – who shaped the Solvency II regulations.
As it happened P&C insurers – AIG excepted – weathered the financial crisis of 2008-09 rather well. They didn’t exactly prosper, but almost none in the industry were forced into runoff, or had to raise large amounts of fresh capital. But once politicians and regulators start a project, they’re generally incapable of letting it drop, even if the reason for it, as far as the P&C industry is concerned, has greatly diminished.
So far SII’s most profound effect has been to force the adoption of information technology systems. “There’s been a tenfold increase in the number of data points required to be monitored,” O’Neill said, and “you can’t do it manually, as they must be accurate, so you need information technology.”
Acquiring that technology and employing the people who can manage it costs money. While larger companies, who already have IT systems and sophisticated capital models, can integrate the data required by SII fairly easily, smaller companies, especially small mutuals in France and Germany, will find compliance very expensive. It also raises the costs for captives, unless they can work out a deal for “proportionality,” i.e. a lighter regulatory burden.
Senior executives, especially senior actuaries, chief risk officers and board members, will be required to play a greater role in how their firms are managed, and how they comply with SII’s requirements.
“Companies have already changed,” said one panel participant, Colm Fagan, who has a wealth of experience in that regard. He is a Director of a number of insurance and reinsurance companies and chairs the risk committees of two life insurers and one reinsurer. He is also credited with attracting over 30 major financial groups to establish international life insurance companies in Dublin, and is a Fellow of the UK Institute of Actuaries and a former President of the Society of Actuaries in Ireland. Fagan is currently a member of the Taoiseach’s (Irish Prime Minister’s) International Insurance Group and of its Solvency II Group.
Tim Hennessy, the CEO of AXIS Re, said “executive oversight is more intense, and the boards (of directors) may even understand the regulations, although I’m not sure.” He added that through meetings, testing and training board members and senior executives are learning what they need to know.
They also know that inevitably SII will change some of the ways they do business, and could cause some insurers to pass up business that may be deemed overly risky. That’s not the principle concern for smaller companies. They’re worried about meeting the requirements in the first place. It’s generally acknowledged that, if and when SII is fully implemented, it will produce a marked consolidation of Europe’s insurance industry. So great are these concerns, triggered in part by the long delays, that doubts are being expressed both as to the necessity and the consequences of the new regulations.
“The timetable has kept slipping,” Fagan said, “and they’ve kept compressing things.” However, as the “crunch time on it all” approaches there are still delays. “As I said in the presentation,” Fagan continued, “my feeling is that the political force, and I’m talking about the local – who was it? Tip O’Neill said, ‘All politics is local’ –’ that it’s the local political forces in various countries that are delaying this [SII] and will eventually, I fear, kill the whole thing.”
In discussing the pros and cons of the various pillars, Fagan said: “I think the whole pillar one aspect of market based solvency assessment is gone. And the reason is that you have an awful lot of European insurance companies that have guaranteed products, which, in these islands, in Ireland and the UK, went out about 30, 40 years ago, but those guaranteed products are backed by domestic bonds.”
He was referring to the debt levels of a number of EU countries – Greece, Spain, Ireland, Portugal and Italy especially – that trade at a discount compared to German bonds; i.e. those assets have a reduced value, and therefore the companies that hold them have less capital, just at the time when SII will require more capital.
“You’ve got the banking problem,” Fagan said. “Do you want to add the insurance problem on top of all that? Let’s try today, one problem at a time. So, for those reasons, I believe, that the Solvency II schedule will be, at the very least, delayed quite substantially.”
Fagan is not alone in having these kinds of doubts, and as he’s been involved with all of this for a long time. He’s not afraid to express his opinion either, but he isn’t entirely negative. In fact he sees Pillar 2, which he describes as “the process, the internal processes,” i.e. risk management, as “a good thing,” for both life and P&C insurers.
“We have good interactions with the regulator,” he said, “and I do think that boards and senior managements are taking the risk agenda on very, very carefully and they’re working with it. Companies are engaging with the whole area of risk, asking ‘Where do we have exposure? What can we do to mitigate it, to reduce it, to eliminate it?’ So there are good processes involved in that. So that part, that Pillar Two aspect of the whole governance process, that aspect of Pillar Two is already in place, you can say.”
As far as Pillar III is concerned, he’s not so sure. “Well, Pillar Three, the transparency, is all about reporting,” he said. “Now, because I’m at the board level rather than the management level, I haven’t got very engaged in that. But what I’m hearing is that transparency is essentially about publication of results. And there are terrible complaints from [the insurance] industry over the level of detail that’s required.”
Fagan’s main concern echoes those of other industry leaders, who “fear that there is a bureaucratic element on this that is creating a major overhead for companies,” he explained. “I’m involved with a reinsurance company as well, and reinsurance companies, they trade worldwide. A European reinsurance company who’s going to be subject to all of these requirements is going to be at a competitive disadvantage compared to one from another jurisdiction. And, as Europeans, we have to take that agenda on board. But unfortunately it is not being taken on board – the whole need to be competitive in the international sphere.”
Time will tell if, and to what extent, the now massive SII rules are fully or only partially implemented. Some of them surely will be. Part of the problem stems from combining regulations applicable to life insurers with those applicable to P&C insurers, with the latter facing increased regulatory burdens, that are arguably of no great benefit to the public. They might even result in less choice and higher premiums. That’s not really what the regulators had in mind when they embarked on the project.
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