1 The birth of Solvency II Assal – EU Dialogue Ixtapa, 27 April 2009 Karel VAN HULLE Head of Unit, Insurance and Pensions, DG Markt, European Commission

2 « Not everything what can be counted counts – and not everything what counts can be counted » Albert Einstein

3 Why Solvency II? Why the approach chosen?

4 Why Solvency II? Current regime 30 years old Lack of risk sensitivity –No incentives for insurers to manage risks adequately; or to improve & invest in risk management –Does not facilitate accurate & timely supervisory intervention –Does not facilitate optimal allocation of capital Weaknesses identified in Müller Report (1997), in KPMG Report (2002) and in Sharma Report (2002)

5 Why Solvency II?  Modernise regulatory framework  Need to act now before the present Solvency I regime breaks down  Provide the insurance industry with more capacity to take on new risks  Improve supervisory convergence  Reduce regulatory arbitrage between banking and insurance

6 Commission has conducted extensive Impact Assessment; cost-benefit analysis Number of contributions: –Macroeconomy (DG ECFIN) –Financial Stability (ECB) –Impact on insurers (CEA/AISAM/ACME) –Impact on supervisors (CEIOPS) –Impact on products and markets (CEA/AISAM) –Impact on consumers (FIN-USE) Number of policy options analysed (45) Why the approach?

7  QR impede efficient asset allocation  sub-optimal return & risk  PPR vs. QR: improved investment returns 90 – 300 basis points  At least €1500 billion subject to QR at the moment; even a conservative 10 basis points improvement would mean €1,5 billion annually  Option 13.3 chosen: reduces admin burden due to better alignment of regulatory regime & industry burden; provides for harmonisation; more optimum risk-return profile; better diversification of portfolios.

8 Proposal for a Framework Directive Recast & Codification Codification & New Articles + Solvency II 14 existing Insurance Directives (direct insurance, reinsurance, groups etc.) = 1 Directive ‘EU Insurance sourcebook’

9 Solvency II – 4 Principal Objectives Deepen the Single Market Enhance policyholder protection Improve (international) competitiveness of EU insurers Further Better Regulation

10 Establishes risk-sensitive capital requirements to encourage and reward good risk managementEstablishes risk-sensitive capital requirements to encourage and reward good risk management Places emphasis on the responsibility of the senior management to manage their business responsiblyPlaces emphasis on the responsibility of the senior management to manage their business responsibly Fosters and demands greater supervisory convergence  Single MarketFosters and demands greater supervisory convergence  Single Market The new regime…

11 Legislative Process - Lamfalussy Level 1: Framework Directive Level 2: Implementing Measures (Commission) Level 3: Convergent implementation assisted by close co-operation between national authorities Level 4: Rigorous enforcement of Community legislation by the Commission

12 We are here!

13 Many players & stakeholders in the process… Preparation by CEIOPS (3 waves of Calls for Advice) Commission Proposal for a Directive (10 July 2007) following consultation & dialogue with –Industry (CEA, AMICE, CRO & CFO Forum) –Professionals (e.g. Groupe Consultatif) –Insurance Supervisors (CEIOPS) –Member State MoF Experts (EIOPC) Commission issued an amended proposal for a Directive (26 Feb 2008) EP and Council have final say

14 Key element of Better Regulation QIS 4 ran from April to July 2008 Analysis and conclusions presented in November 2008  mainly relevant for implementing measures Key issues of QIS 4: MCR, simplifications, equity risk, internal models, diversification effects in groups Quantitative Impact Studies

15 Solvency II Timetable for Directive development (Commission) CEIOPS work on technical advice necessary for implementing measures / supervisory convergence / preparation for implementation / training & development Directive adoption (Council & Parliament) Implementation (Member states) QIS 2 July 2007 Solvency II Directive published QIS 3 Commission preparatory work on possible implementing measures Adoption of implementing measures QIS 4 October 2012 Solvency II enters into force

16 New European solvency regime in place and operational in all Member States by October 2012!!

17 Solvency II Key aspects of original Commission Proposal

18 Solvency II… 3 ‘Pillars’ of equal importance: –Quantitative requirements –Qualitative requirements –Disclosure and reporting Economic, risk based approach Proportionality principle Group supervision and group support

19 Pillar I: Quantitative Requirements Market consistent valuation (fair value) of assets and liabilities, including technical provisions (Best Estimate + Risk Margin calculated on the basis of Cost of Capital) Two capital requirements: MCR and SCR SCR: Total balance sheet approach; VaR 99.5% 1-year European Standard Formula for the SCR MCR: composition and relation to SCR left open Internal Models to calculate the SCR: full / partial Less or no need for lists of eligible assets or limits on investments (Prudent Person Rule) Credit for risk mitigation (securitisation, derivatives, reinsurance) Credit for diversification

20 New regime places much emphasis on good governance (functions) Risk-management: key change from old regime  Own Risk & Solvency Assessment gives focus and structure Supervisory Review Process More developed than in Basel II/CRD Response to weaknesses identified Pillar II: Qualitative Requirements

21 Pillar III: Disclosure & Reporting New approach in Pillars 1 & 2 means new approach needed for P3! More freedom for firms to run themselves; but with new responsibilities  new requirements for disclosure to harness market discipline in support of achieving the regulatory objectives Power & discretion to supervisors; need to earn trust of stakeholders; need to foster supervisory convergence & achieve competitive equality  new requirements for transparency

22  Proposal will improve the supervision of groups  Recognition of economic reality of groups (recognition of diversification benefits; ability to use internal models to calculate group SCR; recognition of group support) Supervision of Groups

23 Improved group supervision Group supervision will no longer be supplementary Organised co-ordination and co-operation between all supervisors Clear role and responsibilities for group supervisor Group internal model Group ORSA and Group Solvency and Financial Conditions Report

24 Introduction of group support More efficient allocation of capital within groups Parent may use under certain conditions declarations of group support to meet part of the SCR of its subsidiaries Derogations to some articles on solo supervision to avoid « unnecessary » interventions of solo supervisors

25 Council Working Party negotiations Hectic pace of negotiations under P, SI and F Presidencies (over 1000 p. of comments) Progress reports to ECOFIN under P and SI Presidencies General approach ECOFIN: 2/12/2008

26 Main issues raised in the Council Application of the proportionality principle Surplus funds, equity risk, mutual groups Exclusion of small insurers Relationship between MCR and SCR Group supervision and group support: colleges, role of CEIOPS, role of group and solo supervisors (opposition by group of 12: power with responsibilities)

27 Result obtained Section on group support deleted from the final text Introduction of a duration approach as a Member State option for equity risk Introduction of a pillar 1 and a pillar 2 dampener to deal with procyclicality

28 Negotiations in European Parliament Several exchanges of views within ECON Draft Report by Peter Skinner (ECON) Draft Opinion by Sharon Bowles (JURI) More than 800 amendments tabled Discussion Results QIS 4: 22/09/2008 Adoption of Skinner Report in ECON on 7 October 2008

29 Main issues raised in EP Exclusions: small insurers, pension funds Relationship between MCR and SCR Group supervision and group support: role of group and solo supervisors, legal commitment of parent, role of CEIOPS Mutual groups and captives Treatment of equity risk Surplus funds

30 Results obtained Some 150 amendments were finally adopted in ECON EP were keen to keep group support regime and proposed further strengthening of cooperation between supervisors EP opposed introduction of duration approach for equity risk

31 Trilogues Extremely difficult negotiations between Council and European Parliament 8 Trilogue meetings were held Agreement was finally reached with EP accepting deletion of group support with review clause Duration approach was accepted under conditions (mainly pension business)

32 Next steps EP adopted agreed text on 22 April 2009 (593 votes in favour against 80 opposed) Final vote in Council on 5 May consultation rounds by CEIOPS during the course of 2009 for level 2 measures QIS 5 to be launched in 2010 Further action through implementation of the de Larosière Report

33 The de Larosière Report Expert group set up by EC in 2008 following financial crisis Report issued end February 2009 Proposal to keep functional supervision but with strengthening of EU level Policy proposals by EC end May 2009 Legislative proposals by EC Autumn 2009

34 Solvency II modern, innovative and liberal regime for the prudential supervision of insurers, based on sound economic principles… … modern, innovative and liberal regime for the prudential supervision of insurers, based on sound economic principles…

35 Conclusion Solvency II is… good for you!

36 How to contact us? All official documents, including the text of Solvency II and preparatory papers are available on our website, which is regularly updated. Official texts are also available in Spanish and Portuguese. nce/solvency/index_en.htm