Panel 6 IAIS Framework for Prudential Regulation IAIS-ASSAL Training Seminar 24 November 2009, Lima Peru Jason Park – Principal Administrator International

Panel 6

IAIS Framework for Prudential Regulation

IAIS-ASSAL Training Seminar24 November 2009, Lima Peru

Jason Park – Principal AdministratorInternational Association of Insurance Supervisors (IAIS)

IAIS Framework for Prudential Regulation 2November 2009Jason Park

Presentation OverviewPresentation Overview

• IAIS Framework for Insurance Supervision

• Adopted standards and guidance papers– Structure of regulatory capital requirements(2008)– Use of internal models for regulatory capital purposes(2008)– Enterprise risk management for capital adequacy and

solvency purposes(2008)– Structure of capital resources for solvency purposes(2009)

• Current work in progress– Valuation of assets and liabilities for solvency purposes(2010)– Investments(2010)

• Future work


Basic concept Basic concept (1)(1)

• Insurer solvency is central to risk management by insurers and to the supervision of insurers

• Regulatory capital requirements are a fundamental part of a solvency regime

• Capital functions as a shock absorber against unforeseen losses

• Sufficient capital is critical to ensure the fulfilment of insurers’ obligations to policyholders

• A solvency regime comprises interdependent quantitative (financial) and qualitative (governance and market conduct) components


Basic concept Basic concept (2)(2)

• Assessment of an insurer’s financial position for supervision purposes addresses the insurer’s technical provisions, regulatory capital requirements and available capital resources

– Technical provisions represent the amount that an insurer requires to settle all commitments to policyholders arising over the lifetime of the portfolio

– Regulatory capital requirements refers to the financial requirements set as part of the solvency regime that determine the amounts of capital that an insurer must hold in addition to its technical provisions

– Technical provisions and regulatory capital requirements should be covered by adequate and appropriate assets – need to consider asset quality

– Capital resources may be very broadly regarded as the amount of the amount of assets in excess of the amount of liabilities


Solvency requirements are integral in the Solvency requirements are integral in the Framework for insurance supervisionFramework for insurance supervision

Preconditions

Regulatory requirements

Supervisory assessment

LEVEL 1

LEVEL 2

LEVEL 3 Supervisory assessment and intervention

Basic conditions for the effective functioning of

the insurance supervisory authority

the insurance sector and insurance supervision

Financial Governance Market conduct

Common Solvency Structure and Standards

Framework for Insurance Supervision


ISRs: a comprehensive and cohesive set of ISRs: a comprehensive and cohesive set of solvency assessment documentationsolvency assessment documentation

International Solvency Requirements (ISRs)

ISR 1

Capital requirements

(adopted)

ISR 2

Capital resources

(adopted in 2009)

ISR 3

Valuation of assets

& liabilities

(due Oct 2010)

ISR 4

Investments

(due Oct 2010)

ISR 5

Enterprise risk

management

(adopted)

ISR 6

Internal models

(adopted)

ST

AN

DA

RD

S

ISR 1

Capital requirements

(adopted)

ISR 2

Capital resources

(adopted in 2009)

ISR 3

Valuation of assets

& liabilities

(due Oct 2010)

ISR 4

Investments

(due Oct 2010)

ISR 5

Enterprise risk

management

(adopted)

ISR 6

Internal models

(adopted)

GU

IDA

NC

E

PA

PE

R




• Adopted standards and guidance papers– Structure of regulatory capital requirements(2008)– Use of internal models for regulatory capital purposes(2008)– Enterprise risk management for capital adequacy and

solvency purposes(2008)– Structure of capital resources for solvency purposes(2009)

• Current work in progress– Valuation of assets and liabilities for solvency purposes(2010)– Investments(2010)

• Future work


StandardStandard and Guidance and Guidance on the structure of on the structure of regulatory capital requirementsregulatory capital requirements (1) (1)

• Standard on the Structure of Regulatory Capital Requirements– outlines 15 principles-based requirements

for a solvency regime in relation to regulatory capital requirements

• Guidance Paper on the Structure of Regulatory Capital Requirements– provides additional guidance on these

principles-based requirements


Standard on the structure of Standard on the structure of regulatory capital regulatory capital requirementsrequirements ( (22))

Requirement 1

A total balance sheet should be used to recognise interdependence between assets, liabilities, regulatory capital requirements and capital resources.

Requirement 2

Regulatory capital requirements should be at a level such that policyholders obligations continue to be met as they fall due.

Requirement 3 & 4

The solvency regime should include a range of solvency control levels which should be coherent with the associated corrective actions.

Requirement 5 & 6

Prescribed capital requirement (PCR) is the solvency control level above which no action to increase capital or reduce risk will be required. PCR should exceed technical provisions and other liabilities at a specified safety level over a defined time horizon.



Requirement 7 & 8

Minimum capital requirement (MCR) is the solvency control level at which the strongest action is invoked if no further capital is made available. The MCR should have a minimum bound below which no insurer is regarded to be viable.

Requirement 9

The solvency regime should be open and transparent on the objectives of the regulatory capital requirements and the bases on which they are determined.

Requirement 10

The solvency regime should allow a set of standardised and if appropriate other approved more tailored approaches such as the use of partial or full internal models.

Requirement 11

The solvency regime should be explicit as to where risks are addressed (split between technical provisions and regulatory capital requirements) as well as how risks and their aggregation are reflected.



Requirement 12

The solvency regime should set appropriate target criteria for the calculation of regulatory capital requirements which should underlie the calibration of the standardised approach.

Requirement 13

For more tailored approaches, the target criteria should also apply to ensure broad consistency among insurers.

Requirement 14

Any variations to the regulatory capital requirements imposed by the supervisors should be transparent and proportionate according to the target criteria.

Requirement 15

The solvency regime should be supported by appropriate public disclosure and additional confidential reporting to the supervisor.


Total balance sheet approach to recognise Total balance sheet approach to recognise interdependenciesinterdependencies

Supervisory assessment of the financial position

Assets Liabilities and capital requirement

Financial position

Assets Liabilities

Te

chn

ica

l p

rovi

sio

ns

Best estimate

policy obligations

Risk marginValue of

assets for supervisory purposes

Capital requirement

Liabilities

Available capital

Public financial reporting

Liabilities

Capital


Solvency control levels to trigger timely Solvency control levels to trigger timely supervisory interventionssupervisory interventions

Technical provisions

& other liabilities

Capital resources

Current estimate

Risk margin

Insurer’s financial position

Regulatory capital

requirements

Required capital

Prescribed capital requirement (PCR)

Minimum capital requirement (MCR)


Progressive intervention levels to ensure timely Progressive intervention levels to ensure timely corrective measures – an examplecorrective measures – an example

• Prescribed capital requirement (PCR) level

• Supervisory intervention not required

Capital Adequacy Ratio

= Capital Available

Capital Required

190%

160%

100%

130%

• Submission of business plan to improve capital buffers

• Increased on-site supervision

• Additional stress and scenario testing

• Limit shareholder dividends

• Restrict new business acquisition

• Delay approval of new products

• Minimum capital requirement (MCR) level

• Winding-up of operation


Internal modelsInternal models: a more tailored approach to : a more tailored approach to determine regulatory capitaldetermine regulatory capital

• What are internal models?– A risk management system developed by an insurer to

analyse and quantify its risk position and to determine the commensurate economic capital

• The internal model approach is suitable only if certain preconditions are met– Level of sophistication of insurers / markets

– Corporate governance structures

– Competent / accountable insurance professionals and management

– Supervisory resources and expertise

• Standards and guidance paper apply only in jurisdictions where internal models are recognised for regulatory capital purposes


General provisions on the use of General provisions on the use of internal internal modelsmodels for regulatory capital requirements for regulatory capital requirements

Roles of supervisors• Establish modelling criteria – ensure consistency among all

insurers.• Set eligible levels of regulatory capital requirements

(including MCR and PCR) for which IM are accepted – extra care if this includes MCR.

• Review and approve the use of IM.

Roles of insurers• Ensure risk modelling techniques are appropriate to the

nature, scale and complexity of risks.• Demonstrate ongoing compliance with the three tests –

statistical quality, calibration and use (next slide).• Notify supervisor of any material changes to the IM.• Ensure proper documentation of the IM.• Provide supervisory reporting and public disclosure.


Initial and ongoing validation and approval essential Initial and ongoing validation and approval essential to ensure model remains fit for purposeto ensure model remains fit for purpose

Statistical quality test

Calibration test

Use test

Appropriateness of quantitative methodology- model inputs, parameters, assumptions

Model addresses overall risk positionData accurate and complete

Demonstrate that the regulatory capital computed using the model satisfies the specified modelling criteria

The internal model is fully embedded into the risk strategy and operational processes

Board and management have control over construction and use of the internal model

Adequate governance and internal controls (documentation and disclosure)


ERM frameworkERM framework underpins robust solvency underpins robust solvency assessment (1)assessment (1)

– What is Enterprise Risk Management ?• Process of identifying, assessing, measuring,

controlling and mitigating risk in respect of the insurance enterprise as a whole

– Sound governance is a pre-requisite for solvency regime to operate effectively

– Enterprise risk management underpins effective solvency assessment and capital management


ERM frameworkERM framework underpins robust solvency underpins robust solvency assessment (2)assessment (2)

Key Requirements• The overall governance structure should include an

Enterprise Risk Management (ERM) framework which is integrated with business operations and culture.

• Appropriate to the nature, scale and complexity of the business and risks.

• Addresses all reasonably foreseeable and relevant material risks.

• Led and overseen by board and senior management.• Supported by accurate and appropriately detailed

documentation of risks.• Risk management policy, risk tolerance statement, and

own risk and solvency assessment (ORSA) including continuity analysis.


Draft standard and guidance on Draft standard and guidance on capital capital resourcesresources for solvency purposes for solvency purposes

Key Requirements• Capital resources should exceed capital requirements.• Capital resources should be defined and should be consistent

with total balance sheet approach with due regard to quality of capital resources.

• Solvency regime should establish criteria for assessing suitability of capital resources – due regard to loss absorbency on going-concern and wind-up basis.

• Solvency regime should require the insurer to assess the quality and adequacy of its capital resources to meet regulatory capital requirements and any additional capital needs.

- Adopted in Oct 2009




• Adopted standards and guidance papers– Structure of regulatory capital requirements– Use of internal models for regulatory capital purposes– Enterprise risk management for capital adequacy and

solvency purposes– Structure of capital resources for solvency purposes

• Current work in progress– Valuation of assets and liabilities for solvency purposes– Investments

• Future work


Draft standard and guidance on Draft standard and guidance on valuation of valuation of assets and liabilitiesassets and liabilities for solvency purposes for solvency purposes

• Joint working group between Solvency & Actuarial Issues Subcommittee and Insurance Contracts Subcommittee developing draft paper.

• Work will take into account developments in the IASB Phase II Insurance Contracts project.

• Key principle is:

The IAIS believes that it is most desirable that the methodologies for calculating items in general purpose financial reports can be used for, or are substantially consistent with, the methodologies used for regulatory reporting purposes, with as few changes as possible to satisfy regulatory requirements.

• Due for adoption in October 2010.


Draft standard and guidance on Draft standard and guidance on investmentsinvestments

• Review of current standard on ALM and guidance on investment risk management.

• Adoption delayed to October 2010 to incorporate observations from the financial crisis such as:– Liquidity risk, concentration risk, SPVs, structured

products.• Some concepts currently being considered:

– Regulatory investment requirements to ensure sufficiency, liquidity and security of investments

– Role of ALM under the broader ERM and IM frameworks

– Diversification of investment portfolios– Risk measurement– Role of stress/scenario testing




• Adopted standards and guidance papers– Structure of regulatory capital requirements– Use of internal models for regulatory capital purposes– Enterprise risk management for capital adequacy and

solvency purposes– Structure of capital resources for solvency purposes

• Current work in progress– Valuation of assets and liabilities for solvency purposes– Investments

• Future work


Further workFurther work

• Establishing a Group Supervisory Framework• Reform of the ICPs by 2011• Extending the solo level ISRs to groups• Updating the existing Standards and Guidance to

take account of the Global Financial Crisis• New Standards and Guidance on Supervisory

Review and Reporting• Common Assessment Framework

– New working group formed to take forward research


Thank you for your attention. Any questions/ comments?

[email protected]

Note : The adopted standards and guidance papers can be downloaded from www.iaisweb.org.

Documents

Panel 6 IAIS Framework for Prudential Regulation IAIS-ASSAL Training Seminar 24 November 2009, Lima Peru Jason Park – Principal Administrator International