1 Solvency II Part 1: Background Vesa Ronkainen Insurance Supervisory Authority, Finland

2 Structure of presentation Part 1: Background for Solvency II Part 2: Pillar 1 (quantitative requirements) Part 3: Other pillars Part 4: Quantitative Impact Studies

3 Contents of Part 1 1. Solvency I 2. Solvency II process 3. Three pillar structure of Solvency II

4 1. Solvency I Current Solvency I Directives (Non-life: 2002/12/EC, Life: 2002/83/EC) are based on the 1st, 2nd and 3rd life and non-life insurance directives of the 1970’s, with some improvements Capital requirements (solvency margin) are of the form: factor*volume measure (e.g. premiums, claims, technical provisions, sum at risk)

5 Solvency I Directive 2002/83/EC Title III: Conditions governing the business Ch. 1: Principles and methods of financial supervision Ch. 2: Rules relating to technical provisions (§23 Categories of authorised assets) Ch. 3: Rules relating to solvency margin and guarantee fund (§27 Available solvency margin, §28 Required solv.margin, §29 Guarantee fund) Ch. 4: Contract law and conditions of insurance Ch. 5: Undertakings in difficulty

6 Solvency I Directive (cont) Title I: Definitions and scope Title II: The taking up of the business Title III: (see above) Title IV: Provisions relating to right of establishment and freedom to provide services Title V: Rules applicable to agencies or branches of third countries Title VI: Rules applicable to subsidiaries of parent undertakings from third countries Titles VII-VIII: Transitional and final provisions

7 2. Solvency II process 2.1 What is Solvency II? 2.2 Why Solvency II? 2.3 Who is involved? 2.4 Timing? Where are we? 2.5. The 3 pillar structure of Solvency II

8 2.1 What is Solvency II? More harmonised and risk-based solvency regime for life, non-life and reinsurance companies in the EU Comprehensive and advanced supervisory system including both quantitative and qualitative requirements Risk management is in focus International compatibility (Basel II, IFRS, IAIS, IAA) Good news for policy-holders Good for the EU’s internal market (and internationally)

9 2.2 Why Solvency II? The current EU regime Solvency I causes regulatory capital to diverge from an economic capital driven requirement for many reasons: a.An undefined level of prudence is required in technical provision; b.The benefits of pooling and diversifying risk are only recognized to a limited extent and the capital requirement only partially reflects reinsurance and other forms of risk mitigation; c.For life insurance business the interaction of technical provision and the solvency margin can create irrational effects where greater prudence in the solvency provision leads to an increased solvency margin;

Why Solvency II (cont.) d.Asset risks are not adequately recognized in the capital requirements; instead quantitative restrictions are imposed which can distort portfolio choices; and e.A proper asset/liability management is not adequately rewarded. f.Given a company’s risk profile, tend to impose capital requirements that for many firms are too low to ensure adequate solvency; g.Does not provide supervisors with harmonised tools to foster high quality risk management and control which is as important for policyholder protection as the level of solvency itself. In Solvency II we will supervise the overall financial soundness and solvency of an insurance firm, including all the assets and liabilities (the total balance sheet)

Solvency II builds on ”Lamfalussy” approach Level 2 Implementing Measures (EIOPC) Level 1 Framework Directive Level 3 Guidelines (CEIOPS) Level 4 Enforcement of community Law

Who is involved?

Timing? Directive development (Commission) Directive adopted? (Council and Parlament) Implementation? (Member States) CEIOPS gives advice to the Commission CEIOPS gives advice for Level II Implemeting measures CEIOPS gives Level III Supervisory Guidance Testing the impacts via QISs

Solvency II: 3 pillars Quantitative Capital Requirements Technical Provisions Minimum Capital Risk Based Capital Eligible Elements of Capital Admissible Assets Supervision Internal Controls & Risk Management Framework Transparency of Supervision Supervisory Review Processes & Powers Disclosure Transparency & Disclosure to reinforce market discipline Pillar 1 Pillar 2 Pillar 3

15 CALLS FOR ADVICE (from the EC to CEIOPS) 1. INTERNAL CONTROL AND RISK MANAGEMENT 2. SUPERVISORY REVIEW PROCESS (GENERAL) 3. SUPERVISORY REVIEW PROCESS (QUANTITATIVE TOOLS) 4. TRANSPARENCY OF SUPERVISORY ACTION 5. INVESTMENT MANAGEMENT RULES 6. ASSET-LIABILITY MANAGEMENT 7. TECHNICAL PROVISIONS IN LIFE ASSURANCE 8. TECHNICAL PROVISIONS IN NON-LIFE INSURANCE 9. SAFETY MEASURES 10. SOLVENCY CAPITAL REQUIREMENT: STANDARD FORMULA (LIFE AND NON-LIFE) 11. SOLVENCY CAPITAL REQUIREMENT: INTERNAL MODELS (LIFE AND NON-LIFE) AND THEIR VALIDATION 12. REINSURANCE (AND OTHER RISK MITIGATION TECHNIQUES) 13. QUANTITATIVE IMPACT STUDY AND DATA RELATED ISSUES 14. POWERS OF THE SUPERVISORY AUTHORITIES 15. SOLVENCY CONTROL LEVELS 16. FIT AND PROPER CRITERIA 17. PEER REVIEWS 18. GROUP AND CROSS-SECTORAL ISSUES 19. ELIGIBLE ELEMENTS TO COVER THE CAPITAL REQUIREMENTS 20. COOPERATION BETWEEN SUPERVISORY AUTHORITIES 21. SUPERVISORY REPORTING AND PUBLIC DISCLOSURE 22. PROCYCLICALITY 23. SMALL UNDERTAKINGS 1st Wave 2nd Wave 3rd Wave