Solvency II News: LTG measures inflexible and opaque, academics warn

A group of leading academics warn that the Solvency II Long-Term Guarantees measures are too inflexible and opaque. In an article published in VoxEU.org on Monday, the academics call on rule makers to “respect” prudential principles and include full disclosure of any discounted liabilities, as well as review the measures after three years. National supervisors should also be allowed discretion to intervene if prudential concerns arise from applying the measures.

The rules governing the treatment of long-term insurance contracts were elevated to the Level 1 text of the Directive last March, following intensive industry lobbying. It is now widely believed that the package of measures will be finalised in trilogue this Thursday (24/10/2013). In the article, Jon Danielsson, Ralph Koijen, Roger Laeven and Enrico Perotti, state, “We fear that important aspects of the necessary conditions for effective insurance regulations have been left out.” The academics, who have been critical of the practice of discounting liabilities in the past, call on rule makers to respect prudential principles:

• “First, since the rules will create a partially justifiable but opaque departure from fair value accounting, they must ensure disclosure of this adjustment.
• Second, the European Commission and the European Insurance and Occupational Pensions Authority should commit to a broad review within three years.
• Third, regulatory authorities should retain some discretion to intervene, if prudential concerns arise with the automatic forbearance rule.”

A number of key aspects such as countercyclical buffers and limited application of discounting to matched portfolios (Matching Adjustment) are set to be left out of the final LTG package. Dr Enrico Perotti told Solvency II Wire he remains critical of the way long-term business is treated under Solvency II. “Some adjustment to market value was called for because of excess volatility, but the solution chosen to embed forbearance by an arbitrary discount rate to reduce reserves is flawed and vulnerable to permanent capture unless more disclosure and timely review is introduced.” Forcing full disclosure prevents forbearance and forces gradual recapitalization when needed, he added.

EIOPA concerns

The warnings raised by the academics echo comments made by Gabriel Bernardino, Chair of EIOPA. Speaking at the ECON committee on 30 September he expressed “concern” about unofficial reports of some of the calibrations to the proposed LTG package. “We need to have a review clause to look at these measures, how they are implemented [and] how consistently they are implemented,” he told MEPs. He also stressed the importance of allowing EIOPA to conduct an independent report on the impact of the measures after implementation. Mr Bernardion reiterated the need for transparency in the use of the measures, as proposed in EIOPA’s LTGA report, “The degree of transparency of this regime needs to be preserved,” he said. — The article is also available here: Solvency II: Three principles to respect. To subscribe to the Solvency II Wire mailing list for free click here.]]>