Solvency II

Paul Fulcher, Hans-Christof Gasser

Solvency II came into force on January 1, 2016, to provide harmonised solvency rules for the EU insurance and reinsurance market, covering assets and liabilities totalling an estimated €8 trillion. This chapter will begin with a look at the background to Solvency II and how it fits within the post-crisis financial architecture, before summarising what we see as the three key aspects for derivative markets. The chapter will continue with a discussion on the three pillars of Solvency II and the complexities of the choice of risk-free curve under Solvency II, which is a key driver of asset–liability matching. Finally, we look in detail at three key areas for derivatives: specific rules around governing their use; how derivative hedges can be used to provide capital relief; and the capital that needs to be held against counterparty default risk.

BACKGROUND TO SOLVENCY II

The previous EU regime, Solvency I, dates back to the 1970s. It had a minimal level of harmonisation and capital requirements based on simple risk proxies (eg, total reserves). After the fall in equity markets in 2001–03, several European Union (EU) states felt compelled to introduce their own supplementary, and

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