Regulatory Change Accelerates After the Financial Crisis

The financial crisis made risk management a top priority for reinsurers, insurers and regulators, all keen to rebuild credibility in markets as the financial services industry lost about half its value worldwide.

"The crisis revealed important deficiencies with respect to current risk management practices, and thus there are important lessons to be learned," said Raj Singh, chief risk officer of Swiss Re [85009], at this year's Monte Carlo Rendez-Vous.

"The insurance industry has, on the whole, withstood the financial crisis, but was not unscathed," said Singh. "Balance sheets were severely affected by a fall in asset values and companies found themselves in difficult capital positions."

The reinsurance sector saw a 36% drop in market value between July 2007 and December 2008, and the value loss was 64% for bancassurance, 52% for life insurance and wealth management and 46% for nonlife insurance, according to a study by Oliver Wyman of the top 400 global financial services companies.

The financial services industry lost more than half its market value in most regions. Central and Eastern Europe experienced the highest drop--down 72% in market value for financial services companies, followed by a market value drop of 60% for Western Europe, 55% for the United States and 52% for China.

"Both the assets and liabilities side of insurers' balance sheets have come under pressure by the crisis, but nevertheless both insurance and reinsurance showed resilience," said Michel Lies, a member of the executive board at Swiss Re.

In the crisis, Lies noted nonlife insurers were "much less affected" than life insurers. Nonlife insurers lost 15% to 20% of their shareholder capital while the loss was 30% to 40% for life insurers. Capital costs became higher and access to capital markets will likely remain restricted.

Regulatory Reaction

As the crisis continues to unfold, Singh said regulatory change is accelerating and the industry is facing higher regulatory costs. In the longer term, regulators will put stricter rules on capital requirements and impose standards on liquidity risk management, compensation structures, supervision on risk, investment and accounting systems.

"Solvency II represents an appropriate response to the crisis, but the implementation measures currently under discussion should not derail the directive from its original principles," said Singh. "The insurance industry needs to make its voice heard to avoid inappropriate regulatory reactions and to secure incentives for sound risk and capital management."

The financial crisis is more a "solvency" crisis for the insurance industry, while it is a "systematic" crisis for the banking sector, according to Lies. The insurance industry was hit by losses in investment portfolios and shareholder capital without any systemic collapses such as in the interbank market and operational systems of the banking sector.

The industry has remained viable with the same level trust from policyholders. Government intervention was confined to few case in the insurance sector compared to intervention in banking, according to Lies.

A hardening of market has happened in most primary insurance areas. However, Lies said competition is expected to "remain fierce." In the medium term, a low-yield investment environment will create a profitability gap.

"To compete successfully, firms will have to quickly re-focus from pre-crisis to post-crisis priorities, which includes future proofing their business models and insurance capabilities," said Lies. Cost management and solid underwriting are crucial for nonlife insurance and reinsurance.

"Strong capitalization is key for using investment opportunities, but the ultimate winners will be those that take action on emerging demand trends," said Lies.

In preventing future crisis, Singh said risk management needs to be more "independent" and "preemptive." "This tasks pose demands on companies, as well as on regulators and governments," he added.

In an evolving regulatory landscape, Singh said the industry's objectives include differentiating the business model of insurance and reinsurance from banks, establishing economic and risk-based regulatory framework, achieving accounting convergence and maintaining market access.

Insurance and reinsurance are part of the solutions but not sources of the crisis, said Singh.