This autumn, the European Parliament and Council along with the Commission will discuss, in what they call a ‘trialogue’, an effort to adopt the Omnibus 2 Directive, which is itself an update of Solvency 2.
The topic currently delaying progress on adoption of the directive is long-term guarantee products. How should financial instruments with a life span of 20, 30 or more years be valued in the current economic environment while respecting market-consistent valuation which is at the core of the Solvency 2 philosophy?
The trialogue was interrupted in October 2012 because of a dispute over long-term guarantee products. The European Insurance and Occupational Pensions Authority (EIOPA) was asked to assess the matter and in June published its report with several recommendations. This will form the basis for the trialogue.
The EIOPA report is supposed to bring some “capital relief” for the insurance industry regarding long-term liabilities. In the current economic context, interest rates remain low and government bonds are no longer risk-free assets to invest in. It has become harder, therefore, for the insurers to guarantee a stable income from their investments over the next decades.
The main challenge for the long-term guarantees measures is to set the proper balance between providing capital relief to insurers and protecting them from the effect of short-term market volatility, while ensuring that they are not facing long-term, unrecoverable losses that could even pose a systemic threat.
Once Omnibus 2 is adopted, the Commission will draft the technical details of Solvency 2, also known in EU jargon as Level 2 implementation measures. This is expected to happen in 2014, with 2015 the transition year and January 2016 the full implementation of Solvency 2 as the new regulatory regime for the insurance industry.
To go further and enhance your knowledge of long-term guarantee products in Solvency 2, a two part interview with Karel Van Hulle, former head of the insurance unit at the European Commission and FERMA Forum keynote speaker, published by Solvency2Wire, can be read here and here. Another article from German MEP Sven Giegold gives also an interesting perspective on the cost of excessive long-term guarantee measures for the economy (here).
In the meantime, commercial insurance transactions continue under the Solvency 1 prudential regime, but the continuing delays to the adoption and implementation of Solvency 2 are already creating uncertainty for captive owners who do not know what capital and reporting requirements they will have in future.