Solvency 2020 review - EIOPA’s opinion on recovery and resolution

By Artjom Altenhof, Consultant

The 2008 financial crisis has showed that it is vital to have a good recovery and resolution policy. However, unlike for banks there is no harmonised regulation for insurers on that topic, the Solvency 2 regulation and the ORSA don’t address the recovery in a pre-emptive way and don’t prepare for a resolution. Some regulators have adopted national recovery and resolution policies, but this has led to a fragmented regulatory landscape across the EU. Therefore, the European Commission was requested to create a harmonised framework. In the Consultation Paper on Solvency 2 review 2020 EIOPA has given eight recommendations on the future regulation. 

Before we start the analysis of EIOPA’s recommendations it is important to understand the terminology:

• Recovery – “going concern”, the undertaking is still viable and in operation
• Resolution – “gone concern”, undertaking is no longer viable and under control of a national authority

The picture below shows the different stages an insurance company can go through. 

The current Solvency 2 framework gives national authorities the right to intervene after the insurer cease to be compliant with SCR and MCR rules. This implies that the regulator cannot intervene when the situation is seriously deteriorating, and the insurer is at a clear risk of breaching the rules in the near future. EIOPA wants the authorities to be able to intervene early enough.
In the 2020 Solvency II review currently under consultation, EIOPA proposes that the regulator should be able to intervene pre-emptively, for example they should be able to:

• Impose more frequent and more exhaustive reporting;
• Require implementing measures from the recovery plan or to update the plan in accordance with the situation;
• If no recovery plan is in place, they can require identifying and implementing measures to recover from the potentially problematic situations;
• Limit variable renumeration and bonuses; and
• In case of life insurance, suspend or limit the surrender rights.

The last point should be carefully considered and the policyholders should be informed about this possibility. The regulator should resort to it only when there is no other way to guarantee financial stability.

The interventions should be subject to the proportionality principle.
 

The resolution planning falls within the responsibilities of the resolution authority. The pre-emptive resolution planning consists of two elements: 

1. Resolution plan: reduction of the impact of the potential failure; and
2. Resolvability assessments: identification of any impediments to the resolution.

The resolution plan should contain the following elements:

• Stress scenarios;
• Resolution strategy (actions for each scenario);
• Funding;
• Critical shared services, group structure or intra-group transactions; and
• Communication.

The resolvability assessment should cover the following topics:

• Feasibility (structural, financial or operational); and
• Credibility (impact on policyholders, third parties and the financial system).

The resolution planning should be subject to the proportionality principle.

EIOPA is in favour of a setting up common set of resolution powers, i.e. entire or partial sale of the undertaking, prohibition of writing new business, restriction of variable renumeration or taking over the control.

At the same time EIOPA stresses that the hierarchy of claims should be respected, and the creditors should be in the resolution process not worse off than in an insolvency.

The recovery planning can concern several members states authorities if the insurer is active outside of its home jurisdiction. Therefore, it is important that there are arrangements in place for cooperation and coordination among supervisors.

It is crucial that the regulator can intervene before it is too late. The trigger for early intervention is currently not defined and every member state has its own policy. EIOPA proposes to harmonise the triggers for recovery and resolution interventions.

Currently the Solvency 2 defines a trigger for the recovery: insurers should immediately inform their supervisory authority when they don’t comply with the SCR or there is a risk of non-compliance within three months.

EIOPA considers this trigger to be appropriate, but also sees the need for other triggers unrelated to SCR. The triggers should be a mix of quantitative and qualitive considerations. 
 

As there is currently either no or insufficient recovery and resolution planning (depending on the member state), these standards, if adopted, will create new obligations for insurers and national authorities that may be quite cumbersome. However, unified a framework of resolution and recovery requirements is highly necessary considering experience drawn from the financial crisis. A single EU regulation would increase the policy effectiveness, reduce the implementation costs and create a level-playing field for insurers.