Expect In-House Opposition to UK Solvency II Reform

This is one we missed earlier in the week, but it’s worth thinking about the competitive advantage that UK insurers might have, once we are free from Solvency II regulations. The prize is a genuinely level playing field, where big UK insurance brands can offer long term with-profits investments, pensions or healthcare plans, plus asset, Life, PAYG mobility or cyber protection that is underwritten on the most competitive terms. Brands can set up R&D units anywhere and source coverage on the best terms, subject to due diligence, which offers insurtech start-ups the chance to grow capacity, to develop their own offer rapidly in the marketplace.

You can only sell insurance 24/7 online with capacity, so having that Solvency issue defined IS the difference between going it alone or selling out to a bigger player – let’s be blunt about that home truth.

There will be tremedous opposition from the Remain camp on Solvency II reform, because any advantge that London has is viewed with severe disdain by Brussels – and others.

What insurers must prepare for is strong opposition from within the UK financial regulatory framework, the Civil Service, charity activists and the entire Woke/Rejoin bandwagon, which will almost certainly be organised and dogged in its determination to stop any fundamental deviation from Solvency II regs. This will be a bitter, irrational and emotive battle – just like Brexit – but if the financial sector is to prosper in global terms, it must succeed.

Here’s the press info from the ABI;

The Association of British Insurers (ABI) welcomes the publication of an independent report from WTW (Willis Towers Watson), which analyses the potential impact of reforms being explored by the Prudential Regulation Authority (PRA) on the Government’s objectives for its Solvency II review – objectives that the UK insurance industry supports wholeheartedly.

After HM Treasury set out the next steps in the Solvency II review in July 2021, the PRA launched a Quantitative Impact Study (QIS) to assist with its analysis of the potential options for reform of Solvency II. Commissioned by the ABI, WTW has analysed selected responses from ABI members in order to inform the continued constructive dialogue between the industry, PRA and HM Treasury.

Overall, WTW found that the reforms set out in the QIS, if they became policy, would not satisfy the Government’s objectives for the Solvency II review on competitiveness, policyholder protection and increased investment in productive finance. In particular, they would:

• Prioritise unnecessary prudence to the detriment of UK competitiveness and growth;
• Lead to higher and more volatile annuity prices, ultimately leading to reduced income security for UK pensioners; and
• Hinder, rather than stimulate growth and investment in the UK, especially for infrastructure and long-term productive assets.

Key findings on specific elements of the Solvency II framework include:

• The Matching Adjustment, and the Fundamental Spread used in its calculation, are elements of Solvency II that are acknowledged to have worked as intended. However, the PRA’s QIS proposed changes to the Fundamental Spread conflict with the original design objectives of the Matching Adjustment. These proposals would reduce the size of the MA by 44% under Scenario A of the QIS and by 13% under Scenario B, increasing aggregate UK annuity liabilities by over £14.1bn and £4.3bn respectively, and as a consequence lock up additional capital that could otherwise be used to invest in growth and the transition to Net Zero.  Furthermore, these proposals would introduce artificial balance sheet volatility into Solvency II, which the Matching Adjustment was specifically designed to mitigate.
• The industry and the PRA agree that the Risk Margin is too large and too sensitive to interest rates. These weaknesses have contributed to UK insurers offshoring longevity risk, often to jurisdictions with less penal regulatory regimes. The Risk Margin for annuity business would reduce by 56% under Scenario A and by 21% under Scenario B; however, both these fall short of the 75% reduction that the ABI believes is justified.
• A significant limitation of the QIS was the lack of information on how the capital that firms are required to hold might be impacted by the updated Matching Adjustment methodology. The PRA did not request information on capital requirements in the QIS to enable it to test the capital impacts of its proposals.  The report considers this a limitation of the scope of the QIS as it hinders transparency of the impact on capital requirements of the QIS proposals and any knock-on impacts on the health and competitiveness of the UK insurance market.
• To satisfy the Solvency II review objectives, the report points out that we need to go beyond the balance sheet and take a more holistic view. The QIS focused on the level of insurer capital (Pillar 1). However, some of the PRA’s concerns are already addressed through the risk management, governance and disclosure requirements set out in Pillars 2 and 3 – with a much lower level of cost and disruption to industry.

Andy Briggs, CEO of Phoenix Group, commented on the proposed Solvency II reforms:

“Phoenix is strongly supportive of the package of measures to reform Solvency II that have been announced. The proposed reforms are a positive outcome for the industry, are fully aligned with the Treasury’s stated objectives and represent a unique and very significant opportunity to ensure more private-sector capital can be directed by insurers into long-term infrastructure assets in the UK.  

At the same time, Phoenix will remain fully committed to preserving policyholder protection which is the core priority for us as a business. We look forward to working intensively with the Treasury and PRA in the coming months to finalise and implement the reforms which will enable Phoenix to increase its investment across the UK to support and accelerate the decarbonisation and levelling-up agendas.”  

Jonathan Drake, partner in the insurance team at DWF, comments on the announcement by the Economic Secretary to the Treasury that there will be reforms to the Solvency II regime. He said:

“The announcement by the Economic Secretary to the Treasury that there will be reforms to the Solvency II regime is one of the first signs that Brexit will be having a significant impact on UK insurers, and UK life insurers in particular. Although being branded as the UK ‘slashing red tape’ the EU itself is also undertaking a review of a number of the features of Solvency II as EU and UK insurers had previously expressed dissatisfaction with its operation. However UK authorised insurers will soon have the opportunity to take advantage of a revised insurance regulatory regime that should in principle give them advantages over EU authorised insurers, which is a tangible benefit to emerge from a Brexit process that has not been an easy one for the UK insurance sector.”

Andrew Kail, CEO, Legal & General Retirement Institutional (LGRI) 

“We are encouraged by the announcement from the Government that it intends to reform Solvency II. Legal & General is already involved in significant investments in the UK – focusing on ‘levelling up’. We have invested more than £30 billion, targeted at the areas of the UK that need it most. But, this is just the start. An overhaul of pension sector regulations will enable to us accelerate further investment around the country, delivering our purpose of ‘inclusive capitalism’ to all our communities. 

“It is now key that these reforms are implemented in good time. Pension Risk Transfer is one of the fastest growing sources of UK investment with immense potential for future growth and we want to see that unlocked as soon as possible. We must not lose this opportunity to transform our economy for the better by unleashing the full power of pensions.”