A new form of capital


Group (n.) - A number of people or things forming a unity or whole on the grounds of some mutual or common relation or purpose.

Unpoetic and functional, 'group' has to be one of the most useful English words. More than a noun (captured by the Oxford English Dictionary definition above), the word is a call to action. By simply defining a group, one has already crossed the line and used the word as a verb.

It can't come as a great surprise that the European Union, itself a group of countries, has an affinity for the word, and is naturally led to using it in its active, verb sense. Neither is it remarkable that many EU member states which draw comfort from their individuality, feel ambivalent about being grouped with others. Thus is the scene set for the tug of war over EU policymaking.

The civil servants of the Commission in Brussels that laboured over the Solvency II framework directive devoted particular love and care to the fifty or so sections that relate to insurance groups. Over the last few months, the Committee of European Insurance & Occupational Pensions Supervisors (CEIOPS) has sought to tease out the meaning of these sections in its advice to the Commission, and now the EU Parliament is going further.

This debate can be fractious at times, but a real benefit has been how it has begun to define a new capital instrument in the form of the group support regime (GSR). It starts with a vague concept - that being part of a larger diversified group changes the capital requirement of a local entity - and ends up with a tangible means of doing this via a pledge from an insurer in one country to one in a different EU state.

With countries like Spain or Poland adamantly against any loss of local regulatory power, the political omens weren't good. Strikingly, the groups committee of CEIOPS seems to have achieved near-unanimity in its advice to the Commission. Some of the early thinking on insurance groups and the GSR may have been done by the CRO Forum, but what is striking is just how much the Commission and CEIOPS have achieved.

For decades, inventing new capital instruments has been a monopoly of the private sector, especially banking. The inventions that bankers come up with are tested in fiercely competitive capital market conditions. Reinsurance is another time-honoured means of capital transfer for insurers. How can civil servants and regulators do better?

Until recently, many observers would have dismissed the idea out of hand. But the credit crunch has shown the creations of bankers - from auction rate securities to collateralised debt obligations - in a poor light. The advantages of these creations have been exposed as illusory when market liquidity vanished or rating agencies admitted flaws in their methodology.

True, there are still massive obstacles to be overcome before the GSR will work in practice. And that's just in the EU itself. The true advantages - and disadvantages - might not become apparent until non-EU supervisors can be recognised as equivalent. But these caveats aside, the Solvency II groups regime deserves serious consideration.

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