Solvency II will have a Great Impact

By Bruce Langstroth, FCIA

European insurers, regulators and various stakeholders (and actuaries and others who work for them) have been and continue to be engrossed in Solvency II. Some of you may not be familiar with Solvency II and others who have at least heard of it may have dismissed it as having no relevance for practice in Canada. The purpose of this article is to provide you with an overview of Solvency II and why it may warrant greater attention.

Solvency II is the label applied to the European regulatory framework for insurance oversight and solvency assessment. Solvency II was formally born in 2004 with publication of the European Commission’s Framework for Consultation but has its roots in the prior growing perception that Solvency I (its predecessor) was not all that it should be.

The architecture underlying Solvency II is very similar to the Basel II (and III) architecture for banks. The three pillars that make up Solvency II are as follows:

Pillar I considers key quantitative requirements relating to available capital, Minimum Capital Requirements, Solvency Capital Requirements and technical provisions (reserves). In determining capital requirements, insurers have the option of using the standard model set by the supervisor or internal models, which are subject to regulatory approval and must meet a series of tests.

Pillar II involves a self-assessment of insurers’ risk management systems and prospective risk identification (Own Risk and Solvency Assessment or ORSA). The ORSA is expected to be quite robust and in the event that it falls short of requirements, regulators have the power to impose additional capital requirements. The substance of the topics covered by the ORSA effectively requires changes to insurers’ risk management systems and culture.

Pillar III requires two reports. The Report to Supervisor will contain quantitative and qualitative information to be provided to the supervisory authority and kept confidential. The more significant change is the second report, the Solvency and Financial Condition Report, which is expected to be made publicly available.

The overall framework principles (Solvency II Directive) were adopted by the European Commission in 2009 with an anticipated effective date of 2013. Significant work (quantitative impact studies) has been conducted in an effort to define and articulate detailed requirements. It is expected that these detailed requirements will begin to be finalized and published in 2011.

Why is Solvency II important to you?

Many answers are still unknown. But the preceding headings represent some of the areas in which changes may occur and greatly broaden the potential influence of Solvency II.

Bruce Langstroth, FCIA, is a member of the Committee on International Relations.