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Resilience of the EU financial sector in the global context - Systemic risks in the insurance sector: key outcomes of the IAIS consultations

New risks, old framework?

By Thimann Christian - Member of the Executive Committee, Head of Strategy, Sustainability and Public Affairs, AXA Group


The more time passes since the 2008 crisis and new risks emerge, the more the FSB framework for systemic risk in insurance seems outdated. Focusing on nine out of the world¹s more than 10,000 insurance companies seems missing the issue, especially as even the largest of the nine companies has a global market share of no more than 3%.

Larger insurance companies warrant closer supervisory attention because they handle a larger amount of risks and savings, but they also have larger amounts of capital. Moreover, the nine companies designated as systemic have all naturally provided special risk management plans, focusing on how to deal with interconnectedness, systemic risk transmission channels, and possible market and liquidity risks.

In turn, the current FSB framework is implicitly and politically sanctioning size as a source of systemic risk. But size in insurance has a specific function. It allows diversification and therefore more capacity for larger companies to deal with larger risks. Global climate risk, population ageing, cyber risk and other risks can be more easily be absorbed on larger and more diversified balance sheets.

Equally, the “non-traditional” terminology as a proxy for activities which may potentially give rise to systemic risk is over-simplistic. It may refer to very “traditional” activities/products which address fundamental policyholders’ needs, with a variety of characteristics specific to the insurance business model, and which have never caused any threat to financial stability even at the worst peak of financial crisis. It would as well be misleading to link complexity, and innovation in insurance product design, to systemicity.

Incidentally, large companies all hold (much) more capital than demanded by their existing prudential frameworks. The notion therefore that from an international regulatory perspective, they would have to hold even more such capital has so far not received any prudential foundation.

This is especially the case for Europe, where Solvency II voted by European lawmakers has now been started and is recognized as one of the world¹s most advanced prudential frameworks for insurance. On the basis of stressing companies¹ balance sheets, it covers market risks, credit risks, counterparty risks, foreign exchange risks, risks of longevity, lapses and mortality and many other risks. The question “Which risks does the FSB want to cover and that Solvency II does not consider?” has therefore not yet received an answer.

The question “which risks does the FSB want to cover and that Solvency II does not consider?” has therefore not yet received an answer.

One answer might be in turn that there is a risk that all regulators see ¬ and still today do not control fully: the sustained, very low interest rates for long-term savings and their implications for the insurance industry, pension funds, the corporate sector as well as private households.

It does affect the insurance sector as a whole but the significant challenge it creates goes far beyond. Long-term saving based on safe assets is more difficult if central banks buy these assets, which consequently become short in supply for the private sector. More broadly, with such low interest rates and returns on savings ¬ which lead to situations where the future has the same price as the present, there is no reward for giving up consumption today for consumption in the future. This is an implicit incentive to increase debt levels which would eventually weaken further private and public debt sustainability.

These new essential questions should suffice to be included in the upcoming regulatory sessions.