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The European Parliament has approved its position on the much anticipated Solvency II review and the Insurance Recovery and Resolution Directive – but some stakeholders have argued the proposals do not go far enough.
The voting results of the EP’s Committee on Economic and Monetary Affairs are available but the full text about the decision is expected to be published on the ECON website in the coming days.
A key element of the review was to address concerns about “measurement flaws” which, according to Insurance Europe, result in “excessive capital requirements and high volatility”.
The organisation said there was an overall improvement on the initial European Commission proposal and Council of the EU text in areas such as capital, volatility and proportionality. However, Olav Jones, deputy director general at Insurance Europe, said some of the original proposals, tabled by rapporteur Markus Ferber MEP, have been “watered down”.
Risk margin 'far too high'
The risk margin, which Insurance Europe said is currently “far too high”, has two key elements which influence how it is determined: the cost of capital and a parameter called Lambda. Reducing the CoC reduces the risk margin for everyone, while a lower Lambda particularly helps insurers provide long-term products and therefore long-term investments too, said Insurance Europe.
The organisation explained: “The MEP Ferber originally proposed reducing the cost of capital to 4%, but in the final agreement this was increased to 4.5%. He originally proposed a calibration for the Lambda, which would have helped a great deal for long-term products and investments, but this sentence was removed entirely in the final text.”
This leaves a “great deal of uncertainty” over the outcome, it said.
Extrapolation of risk-free curves
Another key change relates to how the discount rate for valuing very long-term liabilities is determined. This is impacted by a calibration element called the convergence parameter.
Insurance Europe said Ferber originally proposed a calibration of at least 20% for this “convergence parameter”, which would help insurers offer long-term products by recognising that when interest rates are extremely low and negative, they will not stay like that forever.
“His proposal would have avoided extreme changes and volatility to the valuation of liabilities, ie avoiding that they over estimated if interest rates are temporarily very low and avoided underestimating them when interest rates could be temporarily very high,” it said.
But in the EP final agreement this parameter has been set to be at least about 13%.
“So both of these changes are watering down his original proposals and [it] means the barriers that Solvency II creates [make] it more difficult for insurers to offer long-term products and investments in the long-term remain higher than necessary.”
German association wants easements for small insurers
German insurance association GDV considered the EP’s proposals balanced but argued more work is needed to ease reporting requirements for smaller insurers.
“Applying the proportionality principle automatically in future is the right thing to do, however we would like to see more of the smaller insurance companies benefit from those proportionality rules, too”, said Jörg Asmussen, chief executive of GDV.
“We do want those companies to play by Solvency II rules, but they should be allowed to do it in a way that is appropriate to them.”
Climate risks not reflected in capital requirements
Finance Watch, a pan-European non-governmental organisation, raised “serious concerns” over the levels of capital relief being granted.
One of the justifications behind reducing capital requirements is to provide more long-term real economy investment from insurers to support the sustainable transition, said the NGO, adding that climate-related risks are not yet reflected in insurers´ capital requirements.
Julia Symon, head of research and advocacy at Finance Watch, said: “More work needs to be done to ensure capital requirements account for climate-related risks, such as the risks of fossil fuel exposures which are certain to lose their value in the sustainable transition. Investments in fossil fuels are incompatible with the insurers long-term view on risk.”
Ferber previously argued there was no need to address sustainability in the Solvency II review, citing other regulations such as on non-financial or sustainability reporting.
Next step: Trilogue negotiations
Now that the EP has established its position on the Solvency II review, EU officials will move to a process called trilogues – these are informal negotiations between representatives of the Parliament, the Commission and the Council.
Insurance Europe's Jones said: “A key objective of the review is for insurers to invest more in long-term capital for the economy. The European Commission has also recently committed to simplifying and reducing reporting obligations by 25%. We call for these ambitions to be reflected in the trilogue negotiations and the final text.”
