Solvency II: worth the wait?

It is hard to find an insurer who isn’t utterly exasperated by Solvency II. Recently, a disgruntled Richard Ward, Lloyd’s chief executive, asked “what planet” the European Insurance and Occupational Pensions Authority was on after its latest public consultation on the directive. While some in the industry have praised Eiopa for taking a small step forward, sheer frustration is the overarching emotion of the vast majority of insurers when it comes to dealing with Solvency II.

The consultation, launched in March, concerns guidelines for the preparation of the directive. It will close on 19 June and be followed by an in-depth report, in late autumn, outlining the issues raised. The guidelines – previously called interim measures – include systems of governance, including the risk-management system and own risk and solvency assessment, pre-application of internal models and reporting to supervisors.

The latest proposals, coupled with the decision to include a public consultation, have been met with concern by the insurance industry – but Eiopa chairman Gabriel Bernardino will not be swayed. “These guidelines are an important step towards consistent and effective supervisory practices in preparation for Solvency II implementation,” he says. “They will play an important role in supporting the good function of the internal market in the insurance sector and ensure a higher quality of information. I welcome all contributions from the different stakeholders.”

Zurich Insurance’s head of risk governance and reporting Jérome Berset agrees, but adds it is vital regulators work closely with insurers to ensure Solvency II is as close to its original form as possible and does not harm the long-term prospects of insurers. He says: “It is important the policymakers, together with the industry, find the right balance so the framework maintains its objectives of strengthening the risk governance and improving policyholder protection across Europe, all without hampering the very functioning of the industry in its long-term investors role.”

Berset adds: “There is a need for a few adjustments to the framework, and these must be reasonable. They should not undermine Solvency II. They should not water down the original design of the framework, but they need to factor in these points.”

Oracle Insurance senior director Glenn Lottering believes the market is breathing a sigh of relief with Eiopa’s new guidelines because they represent progress. “It was expected and it was on time. Finally we got something from Eiopa that was on the right time schedule. The upcoming parliamentary session is important. If nothing changes, then as things stand we are all systems go.”

Change fatigue
However, some industry insiders disagree, questioning whether the regulation will ever be implemented and suggesting the delays are causing significant harm. Alex Gurr, director at management consulting firm Baringa, says the industry is suffering “general change fatigue” from years of delays: “If you have a clear and defined target – in this case a date – that you can work towards, you are gathering energy and working hard. But when that end point is so vague it is more difficult to keep pushing yourself.

“We have had a couple of delays and each time it is much harder to regroup. There is a general change fatigue now. People’s natural limit is about two to three years on any one project before they run out of steam.”

Lottering, however, is more positive and sees an end in sight: “I am hearing that we have reached the end of the road in terms of negotiations and we are going to see an implementation soon. Insurers and regulators want this implemented as soon as possible because further delays would be absolutely disastrous. There is a timetable we have all been working towards so nobody should be saying ‘this is uncomfortable for us’.”

Meanwhile, some insiders are questioning the point of the directive if it is not introduced in its original form. Towers Watson director Colin Murray says: “The way it will be implemented initially is that there will be rules that will be open to interpretation. The problem is it may not have the level of harmonisation originally envisaged.”

Gurr agrees: “The new focus on risk and reporting, data and other similar elements is heading in the right direction. But is it going to be as effective as people would have liked? Probably not.”

Insurers argue that, in the case of Solvency II, near enough may not be good enough. Without the strength of its original form, the regulations will not be as effective, running the risk of the directive failing to achieve its objectives. With this in mind, many insurers are taking steps to implement Solvency II regardless of an official live date or outline, and are adamant they are holding on to the directive no matter what comes next from Eiopa.

Berset says: “Because of the delays in the implementation of Solvency II we have taken the pragmatic decision to reduce the project to the minimum required and move every aspect of the project into business as usual. Solvency II is already a reality, or at least it will be soon. We are not freezing any activities in the preparation of Solvency II until it goes live, but rather recognising the benefits of Solvency II for our company.”

Hardy Underwriting chief risk officer Anthony Williams says much of Solvency II has already been put into place across the market: “While we may have a number of years before we need to meet the requirements from a Solvency II regulatory standpoint, we are already carrying out many of the key activities including a Solvency II basis capital requirement, technical provisions, improved risk management standards and the ORSA.”

Williams says Lloyd’s, as a wider market, is also thinking ahead: “Lloyd’s has moved towards the former regulator’s - the Financial Services Authority - new ICAS plus regime, which contains many of the key aspects of Solvency II. From my perspective, this has meant we are already operating in a Solvency II environment, just without the European legislation coming into force.”

High cost
Besides the delays, the price of implementation is a touchy subject for insurers, with the cost to the industry estimated at £3bn for UK insurers alone. Andrew Bailey, chief executive of the Prudential Regulatory Authority, told the City in a speech in January that these escalating costs were “frankly indefensible”.

Williams says while Hardy’s costs initially didn’t add up in a cost-benefit analysis, the firm is now feeling more positive about its spending: “I can’t speak for the industry, but our company has spent more than £3m in the last three years preparing for, and implementing, Solvency II. While much of that was not adding value, much of the work is now creating benefits including improved information to support business decisions such as reinsurance purchases and business planning."

Other commentators insist the money spent has not been wasted, nor has the effort put into ensuring robust risk management. “Even if it doesn’t get implemented in its current form, there is no reason to throw the baby out with the bathwater. We need to keep the good parts,” says Murray. “A huge amount of research has gone into areas like the ORSA and this is very useful. In my experience, boards like the ORSA process and are keen to implement it anyway.
The regulators recognise that and plan to consult on it shortly. There is still frustration that a lot of money has been spent on Solvency II. This arises from the delays, but the discipline and the thinking it has brought to companies will be useful beyond the directive.”

No turning back
However, any moves to shelve the directive would be met with resistance. “It would be a great disappointment as we could have implemented a much simpler regime and still achieved many of the benefits,” says Williams. “It would also mean we wouldn’t be heading for a common set of standards across Europe, which was one of the main goals. That being said, the ICAS plus regime, and the work that Lloyd’s as a market has achieved, means we are already operating in a Solvency II manner and I couldn’t see us going back.”

Berset agrees the permanent shelving of the directive is not an option. “We don’t think this is a realistic scenario. Introducing such a framework is highly desirable. There is substantial support from international policymakers for Solvency II, and we believe the efforts of Eiopa to pre-implement it are going in the right direction.”

Lottering is even more adamant: “Honestly, there is no choice. It will be implemented, that’s for sure. Insurers have always been good at managing their risk and they have been ready for a long time for Solvency II. The only reason we have a delay is because of the capital requirements attached to this project in terms of a percentage. This is just a negotiation point and it will be solved.”

Current market estimates suggest Solvency II will be delayed until 2016, though the official implementation date is still 1 January 2014. Further changes to Omnibus II could delay implementation further, though most insurers agree the introduction is likely to be phased in.

Lottering believes that, whatever happens with Omnibus II, the industry cannot afford delays at this point: “Insurers, the governments and the regulators – we all want this implemented. There is willingness to make it happen.” For Lottering, the cause of the latest delay may be forcefully resolved, which is not something the industry should wish for. He concludes: “The percentage point for capital adequacy has to be finalised and it will reach a point where, if the carriers don’t find a number, then a number will be decided for them. Let’s remain positive. We don’t want to see another £3bn added to the bill. We can do much better things with that money.

This article was published in the 18 April 2013 edition of Post