Fed plots two-tier regime for insurer capital rules
- Financial Times (Subscription Required)
- June 03, 2016
MetLife operates under stringent capital rules in all 50 states. A new layer of federal capital rules could make it more expensive for millions of Americans to purchase life insurance but won’t make the financial system any safer. Higher costs could hurt those who need life insurance and retirement protection the most – middle class Americans. In addition to federal capital rules, international capital rules are being developed by the International Association of Insurance Supervisors which includes U.S. regulators.
· Federal regulation that singles out a few large life insurance companies for SIFI designation and higher capital requirements needlessly disrupts competition.
· State regulators in all 50 states subject life insurance companies to stringent reporting and disclosure requirements, on-site examinations, investment restrictions, business plan approvals, and risk-based capital requirements.
· Outside the U.S., MetLife is supervised by local regulators in each nation in which it operates. In addition, when operating in other nations, MetLife complies with local capital rules.
Why are insurers asking the federal reserve for rules tailored for the insurance industry?
The Federal Reserve has a long history of regulating banks, but has less experience in the insurance industry.
The business of insurance and the business of banking are distinctively different, and capital standards designed for banks do not fit the business of insurance. The business of banking is based upon short-term deposits (liabilities) and loans (assets). The short-term nature of deposits exposes banks to the potential of depositor runs and the risk of a fire-sale on assets to satisfy the demands of depositors. Bank capital rules are set, primarily, in relationship to a bank’s assets and are designed to ensure that funds are available in the event of a run on the bank. The business of insurance, in contrast, is based upon the longer-term insurance policies (liabilities) and matching investments in securities and other assets. Even if an insurer is experiencing financial difficulties, the risk of a policyholder “run” is remote since insurance policies are tied to life events (e.g., the death or disability of the borrower) not the condition of the insurer. Moreover, existing state risk-based capital standards for insurers are based on a range of factors including asset quality, liability risk, interest rate risk, and underwriting risks.
What are Principle-Based Reserves (PBR)?
Reserves are monies earmarked to pay insurance claims when they become due. Over the past ten years, state regulators, with the support of life insurers and the actuarial profession, have developed a new method for calculating life insurance reserves.
Today, life insurance reserves are calculated based on fixed formulas prescribed by state insurance laws and regulations. Formulas under the current system do not always appropriately reflect the risks assumed by life insurers when underwriting products.
The new PBR approach will enhance the current system for calculating policy reserves, resulting in reserve levels that more accurately reflect risks assumed by life insurers for the products they underwrite.
Reserve calculations under PBR will more accurately and appropriately reflect life insurers’ risks but still maintain an appropriate level of conservatism. Because PBR provides more accurate reserving requirements it is expected to decrease the future use of captive reinsurers.