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insurer using <strong>the</strong> SCR formula or by full or partial models approved for use in <strong>the</strong> SCR calculation. The obligation <strong>to</strong> hold more capital (add-on) does not indemnify <strong>the</strong> insurance undertaking from finding a remedy for <strong>the</strong> deficiencies within a reasonable timeframe. 10.117 The reasons why <strong>the</strong> adjusted SCR may differ from <strong>the</strong> SCR are as follows: • The SCR formula may not adequately capture all of <strong>the</strong> risks that <strong>the</strong> insurer faces. Despite attempts <strong>to</strong> make <strong>the</strong> SCR more risk-sensitive than <strong>the</strong> MCR, it may not be possible <strong>to</strong> tailor <strong>the</strong> calculations <strong>to</strong> account for every eventuality. • Particular risks may exist that are not dealt with adequately under <strong>the</strong> Pillar I SCR – for instance, <strong>the</strong> results of possible longer-term perspectives on capital adequacy (for instance <strong>the</strong> continuity test), or any elements of counter-cyclical capital which cannot be captured by <strong>the</strong> SCR (Pillar I) and will be addressed in more detail in its answer <strong>to</strong> <strong>the</strong> CfA 22 on procyclicality 91 . The treatment of such risks is still an open issue and <strong>the</strong>re has not yet been taken a decision on which way <strong>the</strong>se risks should be dealt with. 10.118 In spite of <strong>the</strong> proposed measures and reasons in paras. 10.114 – 10.115, CEIOPS is aware that in practice, limited reliance should be placed on supplementary capital requirements in Pillar II. For example, <strong>the</strong> use of Pillar II <strong>to</strong> bring individual insurers closer <strong>to</strong> <strong>the</strong> target confidence level by adjusting <strong>the</strong> Pillar I estimate of <strong>the</strong> SCR would require intensive use of supervisory resources. There is also a risk that supplementary requirements under Pillar II would not be applied consistently, giving rise <strong>to</strong> competitive dis<strong>to</strong>rtions and uncertainty for insurers. Similarly, internal models will not always be a viable solution because of <strong>the</strong> development costs, particularly in <strong>the</strong> case of smaller insurers as <strong>the</strong> costs are not likely <strong>to</strong> be fully proportional. 10.119 Never<strong>the</strong>less where adjustments need <strong>to</strong> be made <strong>to</strong> <strong>the</strong> SCR in a more judgemental way at <strong>the</strong> discretion of <strong>the</strong> supervisory authority (with or without <strong>the</strong> agreement of <strong>the</strong> insurer) and typically arising from <strong>the</strong> second cause, <strong>the</strong>n this new level of capital is <strong>to</strong> be referred <strong>to</strong> as <strong>the</strong> 'adjusted SCR' or SCR following <strong>the</strong> Pillar II review performed by <strong>the</strong> supervisory authority. Since <strong>the</strong> basic assumption for <strong>the</strong> calculation of <strong>the</strong> SCR is an undertaking that is well run; as a consequence <strong>the</strong> adjusted SCR would <strong>the</strong>n be greater than <strong>the</strong> Pillar I SCR. CEIOPS' Advice General purpose of <strong>the</strong> SCR 10.120 CEIOPS supports <strong>the</strong> inclusion of a specific article in <strong>the</strong> Framework Directive that defines <strong>the</strong> purpose of <strong>the</strong> SCR. 91 CEIOPS-CP-06/05, available on CEIOPS’ website: www.ceiops.org. 104
10.121 The SCR should deliver a level of capital that enables an insurance undertaking <strong>to</strong> absorb significant unforeseen losses and gives reasonable assurance <strong>to</strong> policyholders that payments will be made as <strong>the</strong>y fall due. It should reflect <strong>the</strong> amount of capital required <strong>to</strong> meet all obligations over a specified time horizon <strong>to</strong> a defined confidence level. In doing so, <strong>the</strong> SCR should limit <strong>the</strong> risk that <strong>the</strong> level of available capital deteriorates <strong>to</strong> an unacceptable level at any time during <strong>the</strong> specified time horizon. The SCR should take in<strong>to</strong> account all significant, quantifiable risks. 10.122 The same objectives should apply, regardless of whe<strong>the</strong>r <strong>the</strong> SCR is calculated using <strong>the</strong> standard formula, partial internal models or full internal models. The standard formula, as with any mechanistic formula, can only represent an approximation of an undertaking’s true risk profile. But <strong>the</strong> formula must be a reasonable reflection of <strong>the</strong> overall risk <strong>to</strong> which an undertaking is exposed, and appropriate incentives should be provided <strong>to</strong> encourage insurance undertakings <strong>to</strong> better manage <strong>the</strong>ir risks. Articulation of <strong>the</strong> SCR 10.123 CEIOPS strongly appreciates TailVaR for supervisory purposes and a risk sensitive measurement. From a technical and economic point of view, <strong>the</strong> concept of TailVaR may seem appropriate <strong>to</strong> assess <strong>the</strong> risk profile. But depending on <strong>the</strong> risk characteristics of <strong>the</strong> portfolio, VaR may be calibrated <strong>to</strong> deliver approximately <strong>the</strong> same degree of prudence as <strong>the</strong> concept of TailVaR. To avoid undue complexity, <strong>the</strong> standard formula should simulate <strong>the</strong> effects of a given risk measure, without requiring insurance undertakings <strong>to</strong> perform a VaR or TailVaR calculation for <strong>the</strong>ir SCR. 10.124 CEIOPS recommends that <strong>the</strong> SCR is calibrated using <strong>the</strong> same risk measure under both <strong>the</strong> standard formula and internal models. 10.125 The unacceptable level of capital which serves as a benchmark for <strong>the</strong> calculation of <strong>the</strong> SCR should be defined as <strong>the</strong> point where assets no longer exceed technical provisions (valued with a prudential risk margin) and o<strong>the</strong>r liabilities. 92 Even if <strong>the</strong> capital covering <strong>the</strong> SCR has been used up at some time during <strong>the</strong> specified time horizon, <strong>the</strong> risk margin in technical provisions should ensure that <strong>the</strong> portfolio could still be transferred <strong>to</strong> a third party. 10.126 The choice of <strong>the</strong> level of confidence <strong>to</strong> which <strong>the</strong> SCR is calibrated (and <strong>the</strong> resulting industry capital requirements) will have <strong>to</strong> reflect <strong>the</strong> overall prudential objectives for pillar I requirements on insurers (<strong>the</strong> desired level of safety). QIS will be necessary <strong>to</strong> assess <strong>the</strong> effects of <strong>the</strong>se proposals. As a working hypo<strong>the</strong>sis, CEIOPS will 92 One CEIOPS member holds <strong>the</strong> view that a definition of ruin under <strong>the</strong> SCR should also incorporate <strong>the</strong> MCR. 93 The reporting classes defined in <strong>the</strong> accounting Directive 91/674/EC.. 94 CEIOPS-CP-06/05, available on CEIOPS’ website: www.ceiops.org. 105
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CEIOPS-DOC-07/05 Answers</s
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Style convention The following has
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• Safety measures (CfA 9); • So
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sole purpose is to
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Call for Advice No. 7 Technical pro
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one year). Therefore, capital requi
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perhaps through an explicit additio
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Discounting 7.22 The present value
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exposed to risk fr
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insurance liabilities set by refere
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Profit sharing In practice, for uni
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future cash flows will have <strong
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Explanatory text S
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always have resources to</s
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developed. They would help
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8.28 A fourth option could be envis
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In principle, "the
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8.48 Three alternatives can be cons
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essential part of the</stro
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statistical estimate (with a level
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8.77 It may be argued that
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to use more sophis
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consequence on the
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8.105 In some cases, the</s
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This shall be reviewed, at least an
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ut the exposure <s
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member countries and in the
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components of the
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Background 14.1 Current insurance D
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14.12 In order to
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groups in its answer to</st
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affected; • Impose restrictions o
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14.43 Regarding the</strong
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off all contracts; • to</
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Call for Advice No. 15 Solvency con
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Minimum capital requirement (MCR) D
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adjusted SCR. From a purely technic
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to be implemented.
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capital
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absolute floor (expressed in euros
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Bolkestein agreed to</stron
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16.14 Generally speaking, complianc
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appoint an additional person <stron
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16.28 It should also be noted that
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Time of application 16.41 The asses
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of the individual
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Background 17.1 This document aims
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Review Panel would be a permanent g
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• the developmen
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asis for considering improvements <
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(I) Regulatory arb
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(II) Capital requirements at group
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into a SCR at grou
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18.31 Additionally, it must be deci
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Capital requirements 18.39 The Fram
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(III) Supervisory Review Process of
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18.60 In view of the</stron
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new structure would need to
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future Framework Directive. CEIOPS
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18.94 Model validation in t
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the assumptions us
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Annexes Annex A (Call for Advice No
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pursuing a strategy which t
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Specific principles for non-life in
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Conformity, suitability and suffici
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• existence of significant insuff
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A.64 In the tests
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the rules on <stro
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TVaR1-α for Tail Value-at-risk. In
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Degree of personalisation B.24 Tran
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B.34 There are two approaches <stro
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Segmentation B.44 In general terms,
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technical technical technical techn
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B.61 The second alternative was cho
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Dutch supervisory authority for <st
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Market risk Equity risk this altern
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B.95 In a scenario-based approach,
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B.106 As an alternative one could t
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where: KTSA = the
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Results from the a
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Solvency ratio prior to</st
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Number of instances Risk group Deta
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Conclusion In general, the<
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where: TP gross = technical provisi
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premium risk, the
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“While proportional reinsurance t
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contribute with any additional info
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E.29 Another way <
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programmes on the
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