Solvency II Review: Independent report by WTW on Solvency II reforms and the PRA Quantitative Impact Study

Following HM Treasury’s call for evidence on re-shaping the UK insurance regulatory regime in light of the UK’s withdrawal from the EU, the Prudential Regulation Authority (PRA) undertook a Quantitative Impact Study (QIS) to explore variations in several technical aspects of particular importance to writers of long-term insurance.

WTW has prepared a report that provides an explanation of the key challenges arising from the regulatory changes explored in the QIS and summarises the outcomes for a subset of major UK insurers with significant life insurance business.

In our view, the QIS framework:

• does not satisfy the collective objectives of the HM Treasury review of Solvency II, as it would lead, if implemented, to material reductions in, and increasing volatility of, insurers’ funds available to withstand shocks, prioritising increased prudence to the detriment of competition and growth;
• will hinder, rather than stimulate, growth and investment in the UK, especially for infrastructure and long-term productive assets that the UK Government is keen for insurers to invest more in;
• could lead to higher and more volatile annuity prices with resulting lower demand for such products and impact the broader pensions sector, ultimately leading to reduced income security for pensioners.

The WTW report includes an analysis of life insurer data submitted in the QIS, representing approximately three-quarters of the life insurance industry by technical provisions. It has been prepared by the UK insurance practice of WTW for the Association of British Insurers (ABI).

The findings¹ from the WTW analysis of the two scenarios explored in the QIS (Scenario A and Scenario B) using this sample of data are:

• The Matching Adjustment (MA) would reduce by 44% in Scenario A and by 13% under Scenario B, equating to an increase in annuity liabilities of £14.1 billion and £4.3 billion, respectively.
• The Risk Margin (RM) for annuity business would reduce by 56% under Scenario A, while Scenario B would lead to a 21% reduction. The RM for non-annuity life business would reduce by 42% and 18% for Scenario A and Scenario B respectively.
• In aggregate, insurers’ funds available to withstand shocks would reduce by 4.2% under Scenario A and by 1.0% under Scenario B.
• For firms with MA portfolios, the average reduction in solvency ratio is 8% and 2% for Scenario A and Scenario B, respectively, based on holding the SCR constant across the scenarios. For firms that specialise in annuities, the average solvency ratio drops by 31% and 11% under Scenario A and Scenario B, respectively.
• Under an “extreme spread” stress, as specified by the PRA, the MA under the QIS scenarios offset the spread movement by approximately 30% less than the current approach.

WTW believes that there is a need for increasing levels of engagement to develop an approach that better aligns to the review objectives on international competitiveness and supporting insurers as providers of long-term capital, and which is not to the detriment of policyholder protection and the safety and soundness of firms.

We strongly support working together in a constructive dialogue between policymakers and industry that progresses development on these important areas.

¹ The results are aggregate figures based on a sample of participants in the QIS and do not represent the effect on individual firms or the UK insurance market in total.

Authors

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Kenneth McIvor

Director, Insurance Consulting and Technology

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Anthony Plotnek

Director, Private Asset and Capital Management Lead, Insurance Consulting and Technology

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Gareth Sutcliffe

Head of Insurance Investment Team

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