Actuaries Abroad

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It's a Sea of Regulation
by Kendra M. Felisky-Watson

This hottest summer in history for the British Isles has unfortunately drawn to a close and it is now time to start thinking about actuarial issues again. But first, most people will have trouble believing that the rain suspended itself for a few weeks and the thermometer actually topped 100 degrees for the first time ever! The bookmakers had the odds at something like 20 to 1 at the beginning of the summer, but reduced the odds to 4 to 1 later on. Were they becoming more risk averse or did they know something the weather forecasters didn't?

Anyway, by the time you read this, the annual actuarial conference of general insurance actuaries (called GIRO) will have taken place in Cardiff, Wales. It looks like it is on track for being the largest gathering ever at around 350 actuaries. General sessions are scheduled on such topics as operational risk, breaking the reserving cycle, development relationships with underwriters, and extreme events. Gail Ross is to chair a session on "Views from Across the Pond." A very relevant session looks to be the "Report from the Clearer Communication Working Party," something that seems relevant to most actuaries! (As a side note, we are pleased that the CAS is trying out using working parties to produce research papers. It has been a very effective format for producing papers here in the U.K.) There are also over 40 breakout sessions on such topics as "Marine Catastrophe," "Using Advice of Other Professionals," and "U.K. Asbestos." All papers can be found on the Web site of the Institute and Faculty of Actuaries.

The European Commission published a paper on March 3, 2003 that discussed the design of a future European Union prudential supervisory system for insurance. This paper was long on general principles and short on specific proposals but did include

• concentrating on "overall solvency"—a company's financial soundness, taking all factors, both current and ongoing, into account;
• adopting the 3 Pillar approach;
• gearing the system to each insurer's own risks, thus encouraging each insurer to better measure and manage their own risks;
• harmonizing across member states, and that the most efficient means of promoting harmonization is not to adopt new, more detailed rules but to foster the convergence of companies' practices by seeking a common interpretation of prudential rules;
• introducing the concept of "target capital" (or "desirable capital"), the capital required to reduce to an acceptable level the risk of ruin. This is in addition to the minimum capital requirement.

In order to comply with the recent European Union Non-Life Directives (Solvency 1), the Financial Services Authority (FSA) in the U.K. is implementing solvency rules to take effect from January 1, 2004. The changes are not radical:

• increased capital for higher-risk liability business
• adjustments to solvency margin calculation
• various other changes (to minimum guarantee fund, to use of subordinated debt in asset calculation, and to treatment of small firms and mutuals)

Insurers will now be required to notify the FSA of any change in the nature and quality of reinsurance where this reinsurance is used to reduce its required solvency margin (RSM).

The calculation of the RSM now looks like the following (run-off of pure reinsurance companies excluded):

Premium Basis—Higher of premiums earned and receivable. Threshold increased from £10 M to £50 M. Threshold is linked to consumer prices. 50 percent increase for general, marine, and aviation liability.

Claim Basis—Threshold £35 M. Threshold is linked to consumer prices. 50 percent increase for general, marine, and aviation liability.

Reinsurance Allowance—Reinsurance ratio adjustment assessed over three years (from one year).

The FSA has recently issued "Consultation Paper 190: Enhanced Capital Requirements and Individual Capital Assessments for Non-Life Insurers." The new regime for non-life insurers will have two key features:

• a new risk-based enhanced capital requirement (ECR). This will be based on a capital charge to be applied to asset and insurance risks.
• individual capital guidance (ICG) to firms based on the FSA's own view of how much capital would be adequate for individual firms to hold taking into account firms' assessments of their own capital needs.

The FSA says the ECR will be introduced in a phased way so that it will initially only be a reporting requirement and become a prudential requirement later. They want to consult carefully on how the ECR is calibrated, assess its effects on individual firms, and allow time for the market to absorb the changes without stress.

Last spring, the International Underwriting Association and the Association of British Insurers unveiled the findings of their jointly sponsored "Third U.K. Bodily Injury Awards Study." This report—the biggest exercise of its kind ever undertaken—analyzes trends in personal injury claims and the forces driving them by drawing together research by legal, actuarial, rehabilitation, and medical working parties. The report concluded that the cost of bodily injury claims to U.K. motor insurers has risen by nearly 10 percent per annum over the past decade. Personal injury claims accounted for more than 33 percent of motor premiums in the 1998 accident year. From 1998 to 2000 claims inflation fell slightly to 8.4 percent but it is expected that the level of inflation will quickly rise above 10 percent over the next two years. Claims inflation has been greatest in the highest value claims. Payments by reinsurers on claims above £250,000 have risen by more than 20 percent per annum.