Setting the stage for major scene change

Editor's letter

Aaron Woolner

The heated debates in the European parliament about group support and the need for an equity duration dampener in the Solvency II directive may have given the impression that it was politicians who would wield the biggest influence on the development of the Solvency II directive.

But the publication by Ceiops of another 25 consultation papers on headline topics such as the college of supervisors, the risk-free rate, and the more obscure delights of counterparty default adjustment, have set the stage for some major potential changes in the future direction of Solvency II.

The decision to recommend only AAA government paper for the risk-free rate instead of swaps, which Ceiops sees as imperilled by the spectre of counterparty credit risk, is an obvious area of debate (see news story on page 10).

At previous Life & Pensions conferences, senior industry figures were adamant about swaps' suitability for discounting future liabilities. It is not clear whether the freakish events at the end of last year, when the rates for government paper headed those demanded for swaps, will affect this support.

Indeed there is groundswell of opinion that the risk-free rate in itself should not be simply a market number but should reflect the reality that long-dated insurance liabilities are far more numerous than the assets available to back them.

And when Life & Pensions bumped into Adair Turner - head of the UK's Financial Services Authority - in the corridors of a recent conference, it heard first hand that the organisation which played a lead role in establishing risk-based insurance regulation with the individual capital assessment "doesn't believe that a fully market consistent approach is suitable for discounting long-dated liabilities".

However, Ceiops consultation paper no 40 characterises this stance as held by a "minority" of members with the "great majority" in favour of an approach that is welded to the movements in term structures.

But this view may be overstating the case. While the UK treasury has made few friends in its negotiating stance the path of Solvency II - one UK figure described entering talks with representatives of the other member states as "waiting for 26 people to punch you in the face" - support for the illiquidity premium's inclusion appears to be growing.

In addition to the likes of Storebrand, which has publicly stated its view on the merits of adding an illiquidity premium to long dated assets (Life & Pensions, May, page 16), in recent months figures from the Spanish and Dutch industries have indicated to Life & Pensions that they see merit in its inclusion.

It is not just broad principles which are causing discussion - the issue of calibrating Solvency II's standard model is still up for debate, with Fortis raising questions over the current setting of the mortality and longevity shocks (see story on page 28).

And given that this issue merited a mere couple of paragraphs out a 36 page paper by the Chief Risk Officer's Forum on calibration it is clear that it is still far from being resolved.

The key point is that over a wide range of issues Solvency II is far from being decided.

It is important therefore for the industry to air its views - with Life & Pensions an ideal forum for debate.

In addition to the magazine itself, I would encourage readers to look-up the magazine's group on networking site LinkedIn.

With a mixture of news and debate this group offers the opportunity to be updated, and discuss the latest regulatory and financial developments to affect the industry.

And in London on October 7 Life & Pensions will host its third annual Solvency II conference, which includes a key note speech by Allianz chief risk officer Tom Wilson, and features Ceiops secretary general Carlos Montalvo on a programme that will discuss all the major issues relating to Solvency II.

The debate about Solvency II is ongoing and I look forward to hearing the industry express its views.

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