There is now a final package of reforms for Solvency II, however the devil is in the detail and the outcome of discussions between industry and the regulator will help shape the future direction.
When Sam Woods, chief executive of the Prudential Regulation Authority, delivered his speech at the Association of British Insurers annual dinner in February 2023, he likened the trickier Solvency UK changes to the “love it or hate it” Marmite. Love it or hate it, there is now a final package of reforms.
However, there remains much detail still to be worked out and there is a large role for the industry to play.
In the second half of 2023, we expect further detail to emerge on key areas and we also expect progress to be made in the legislative process to bring Solvency UK into effect.
The financial services and markets bill continues its (rather slow) passage through parliament and, following Royal Assent, will grant powers to introduce the statutory instrument to reform Solvency II.
The question of predictability
For many, widening the eligibility criteria for the matching adjustment (MA) to cover a wider range of asset types is where the reforms could offer the most material benefits.
MA allows insurers to discount certain long-term liabilities at a greater rate and thereby reduce the assets they need to hold against those liabilities.
The government says that extending the MA eligibility criteria to assets with highly predictable cash flows could encourage investment in long-term, productive assets.
However, there are concerns that this aspect of the reform package will not deliver material benefits.
Such fears relate to constraints on the concentrations firms may be permitted to hold (HM Treasury has stated that the vast majority of assets in MA portfolios are still expected to have fixed cash flows) and the potential for increases being applied to the fundamental spread for such assets (as permitted under one of the new additional measures being granted to the PRA).
This leads into the biggest question hanging over this aspect of the reforms: just what is meant by “highly predictable”?
A 2021 actuarial working party paper concluded that a more pragmatic interpretation of cash flow “fixity” is required to address the challenges of investing in emerging technologies, green/clean energy investments and long-term real assets under the current MA rules.
While a variety of options to relax the current fixed cash flow MA requirement is under consideration, it is unclear the extent to which these changes will lead to any significant change in the assets held in MA portfolios.
Therefore, there may be limited additional investment in long-term, productive assets as a result of these changes beyond the levels insurers have already been investing in over recent years.
Reporting: the 'must have' and the 'nice to have'
Now into phase two of consultations, the review of Solvency UK’s reporting requirements is relevant to all insurers and has the potential to deliver the most value to the smallest firms.
