1 January 1970Analysis

EIOPA: simplifying the complex

For some time now the European captive industry has expressed concern regarding the scope and potential ramifications of Solvency II. The European Insurance and Occupational Pensions Authority (EIOPA) and the European Commission (EC) have sought to allay these fears through an extensive consultation process, with the intention of adjusting and finalising a framework that takes into account the specific nature of a disparate array of insurance entities—no simple task. It is clear from conversations with those in the captive sector that despite its consultative efforts, EIOPA still has some reassuring to do. Talking with Carlos Montalvo, executive director of EIOPA, it becomes evident, however, that there is reason for cheer in the captive sector in 2012. As Montalvo outlined, following the results of the Quantitative Impact Study 5 (QIS5)—an industry review of the measures being considered by EIOPA and the EC—there will now be “simplifications introduced on the Level 2 technical implementation of Solvency II for captive entities”.

The new guidelines “acknowledge the specific nature of captives in calculating the solvency capital requirement (SCR) for insurance entities”, he said, and allow appropriate simplifications. Montalvo indicated that there had been similar requests from small and mediumsized insurers—firms that were not themselves captives—to be included among those entities able to apply a simplified formula to their Level 2 requirements, but said that it had been made clear that “only captives could benefit from the simplified SCR calculations”. The outcome was “good news for the captive industry” with the changes likely to be included in the next full draft expected from the EC. Final approval remains with the EC, but already there is ad hoc application of the new, less onerous requirements. Captives will be hoping that facts on the ground and support from EIOPA will translate into legislative approval for simplification from the EC.

While Montalvo welcomed the proposed simplification of SCR requirements for captives, he said that the industry “should not be in favour of Solvency II-light”. As he outlined: “Solvency II’s intention is to afford protection to European policyholders as well as ensuring financial stability. EIOPA would therefore not be content with the idea that under Solvency II captives would apply a different framework than their commercial counterparts.” Rather, they should offer levels of protection commensurate with the risks involved, and in order to balance the concerns of captives and consumers alike,Europe has sought to introduce the principle of proportionality to its regulatory directive. This enables the introduction of “exemptions and simplifications, while not reducing the level of protection” ushered in by the new regulatory framework.

Concerns nevertheless remain, Montalvo said, with captives worried about how exactly the new regulatory measures will be applied. “The leading concerns are how onerous the new regime will be on a captive’s particular type of business and how balanced it will be in its treatment of insurance entities,” he explained. Montalvo was, however, adamant that the “confidence levels established by the directive” need to be the same for both captive and non-captive business. Exemptions or exclusions from the regime are evidently out. Nevertheless, he said that EIOPA strongly believes in the principle of proportionality and in dealing fairly with the captive sector.

The issue remains “how, in practice, proportionality will work”. Captives will undoubtedly be hoping that it will be applied in their favour. What seems likely is that this will be practicable. Montalvo said that the EC is continuing to assess the likely impact of its regulatory regime, with response to the recent QIS5 assessment likely to “provide concrete responses to the question of the level of burden faced by captives”.

A pan-European directive

EIOPA’s remit will include ensuring that Solvency II is applied equally across Europe, through the “harmonisation and convergence of supervisory practices”, Montalvo said. Aiding its efforts, EIOPA has created a number of “tool kits” to expedite the process. These include mediation (both binding and non-binding), peer reviews, and discussion regarding legislation, recommendations and guidelines issued in the cooperative process. Together the different elements create a “strong arsenal to ensure compliance and consistency, because consistency means a level playing field”. Asked whether there were opportunities for countries to deviate from the general European framework, he said that there would be no opportunities to “cherry-pick provisions, rather country regulators will be obliged to apply all elements” of the Solvency II regime.

"In order to balance the concerns of captives and consumers alike, Europe has sought to introduce the principle of proportionality to its regulatory directive."

Responding to and assuaging the demands of varied jurisdictions and carriers has “been a challenge” for the team at EIOPA, Montalvo admitted. But “being involved in the discussion process, you are able to come to understand the points of view of the various parties involved”, he added. He said that while EIOPA has sought to “create a broad, general framework that once established would enable EIOPA and local regulators to go into the detail and allow simplifications in order to align the regulatory framework with the reality of those businesses regulated by Solvency II”, in doing so, it has attempted to create a resolution that is applicable regardless of jurisdiction or type of entity. Perhaps inevitably, Montalvo agreed, with such a broad remit EIOPA is never going to have “everyone completely happy with the state of play, although as a former lawyer I can tell you that a good deal is one in which nobody is content. If you have managed this then you have probably struck the right balance”.Asked whether he expected Solvency II to become a global standard, Montalvo said that while he thought the regime is a “good piece of legislation”, he thought it unlikely to become universal. Rather the regime would serve to prompt the creation of a future “risk-based global framework”.

Addressing the timescale for Solvency II implementation, Montalvo said that there were two distinct components. The first was Level 1 directives, which will be “transposed on to the national legislation of participating countries” by 31 December 2012, with all member states obliged to comply. In case of non-compliance the member states will be subject to potential sanctions from the EC. The second element is the regulations of Level 2 compliance, which are “by their nature directly applicable and enforceable”, yet they should also be transposed by year end 2012. The framework will be phased in during 2013, a year in which the rules “will not be fully enforced”, although substantive steps will be taken in this period, such as the approval of internal models, to ensure that “full enforcement” occurs from January 2014 onwards.

There had been some concern that the crisis in the euro zone and Europe might derail the Solvency II project. However, while conditions had grown more difficult, Montalvo said that he was confident of its progress, with the directive necessarily “designed to operate both in good and bad times”.

“The framework introduces a number of anti-cyclical measures that should be able to deal with situations such as this one and not force a fire sale on regulatory development. What we cannot do is use figures from really bad times such as the one we find ourselves in today to weaken the Solvency II framework.”