A global theme that emerged from the financial crisis is the need to detect and regulate macro-prudential risk.
The Financial Stability Board (FSB) defines systemic risk as ‘the risk of disruption to the flow of financial services that is (i) caused by an impairment of all or parts of the financial system; and (ii) has the potential to have serious negative consequences for the real economy’.
Since the financial crisis, international policymakers have worked to develop a regulatory framework to tackle systemic risk. Their focus was initially limited to the banking industry. The first list of global systemic banks was published in November 2011 and is reviewed each November.
Policymakers then shifted their attention to insurance. The International Association of Insurance Supervisors (IAIS) was tasked by the FSB with developing a methodology for identifying global systemically important insurers (G-SIIs) and policy measures to reduce those insurers' systemic importance.
The IAIS developed a methodology for identifying G-SIIs in 2012/13 and a framework of policy measures to be applied to G-SIIs. It includes enhanced supervision, a requirement that G-SIIs implement effective resolution regimes and higher loss absorption capacities – which means putting up more capital.
In July 2013, the FSB published a list of G-SIIs. The insurers designated as G-SIIs were: Allianz, AIG, Aviva, AXA, Generali, MetLife, Ping An, Prudential Financial and Prudential plc.
FSB updated the list of G-SIIs in November 2015: Aegon NV were added and Generali removed.
Activity-based approach (ABA) to G-SII designation
In December 2017, the IAIS launched a public consultation on an ABA. It was an interim consultation, asking for input.
The IAIS’s existing methodology for G-SII designation focuses on whether the failure of an individual insurance undertaking (or group) threatens the wider financial system. This is described as an “entity-based approach” (EBA).
The IAIS defines an ABA as “an approach to mitigate systemic risk through broadly applicable policy measures addressing potentially systemic activities”. In comparison with an EBA, an ABA looks at risks facing many firms across the sector, rather than the risk facing a single firm. It entails assessment of risk transmission due to activities that may be systemically relevant, either in themselves or because of the common behaviours of firms.
- Step 1 – identification of systemically risky activities. The document suggests that the IAIS will focus on two areas: liquidity risk and macroeconomic risk.
- Step 2 – evaluation of existing IAIS policy measures. This may mitigate risks stemming from the identified activities, reducing the need for new measures.
- Step 3 – gap analysis. To identify risks that are not sufficiently mitigated by any existing policy measure.
- Step 4 – develop policy measures. To address any residual systemic risk.
Insurers and insurance associations responded to this consultation. Most of the industry welcomed the ABA. This reflects hopes that the ABA will replace the EBA. Although this is possible, the IAIS has not indicated that it will take this step and it may decide that the ABA should supplement the EBA.
IAIS adopted the holistic framework for assessment and mitigation of systemic risk for implementation from the beginning of 2020. This framework recognises that systemic risk can arise both from sector-wide trends with regard to specific activities and exposures as well as from a concentration of these activities and exposures in individual insurers.