In the coming years, Europe faces the huge investment challenge to make Europe climate neutral through the Green Deal, to catch up in the field of digitalisation and to recover from the economic crisis caused by COVID-19. The current revision of Solvency II can play a driving role in this, provided that the European Commission (EC) gives insurers, as important providers of capital and long-term investors, the opportunity to use their investment power for a strong Europe.
To make this possible, the insurance sector advocates relaxing the current requirements for holding buffer capital. In doing so, the sector is going against an EIOPA advice that seeks to increase the capital requirements. According to recent calculations by Insurance Europe, Europe will miss out on up to 680 billion euros in future investments by insurers. The Association reiterates that insurers have sufficient capital to meet their obligations towards the customer: maintaining unnecessarily high buffers leads to higher costs and premiums for the customer.
Take into account actual risk life insurance
Further increase in the capital requirements is also not necessary if the EC adjusts the Solvency rules in such a way that they better take into account the actual risk of long-term savings and pension products. This can be done by relatively simple adjustments such as limiting the maximum negative interest rate to exclude unrealistic scenarios. But also by more substantial adjustments, such as the introduction of a dynamic Volatility Adjustment (VA) because the current VA does not work well for most insurers. With a dynamic VA, insurers can respond to the tension between market movements in the short term and the long-term nature of their obligations. These movements affect the market value of the investments and therefore the market value of an insurer's equity. By widening the VA and aligning it with the spread of the reference portfolio, insurers are better able to compete on the quality of their investment policy for savings and pension products. Products that are essential for the well-being of European citizens in the face of an ageing population and national budgets under pressure.
Higher capital buffers due to lower interest rates
Another eiopa proposal concerns the extrapolation of the yield curve in relation to the long-term low market interest rates. EIOPA wants to introduce a much stricter method for the mathematical extrapolation of the last liquid point to the final calculation interest rate (UFR). This forces insurers to take into account lower interest rates in the longer term. As a result, they have to hold much more equity. The current method, in which the interest rate decreases by 0.15% annually, is perfectly sufficient to respond to a persistently low interest rate. The EIOPA proposal makes the system unnecessarily complex.
Align risk margin with current interest rates
In addition, the sector advocates a different calculation of the current risk margin (the discounted future capital requirements, which must be present in order to facilitate a portfolio transfer to another insurer in the event of an emergency). The interest rate of six percent included in the current formula dates back to 2006, when the capital market interest rate was considerably higher than it is today. Insurers can free up more capital for investments if the risk margin is brought in line with the current interest rate level. This leads to lower capital requirements. Other measures to increase the investment capacity of the sector are adjustments to technical provisions and the creation of more room for the risk spreading of investments.
In a series of articles , the Association reflects on the most important priorities for the insurance sector in the revision of the Solvency II directive by the EC. In December 2020, EIOPA offered a comprehensive opinion to the EC to which the Association and Insurance Europe responded. The European Commission is currently working on a proposal for the revision that is expected in the 3rd quarter of 2021. This proposal will then be taken to the Council of the European Union and the European Parliament for decision-making.
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