An Assessment of the Market Risk Solvency Capital Requirement Simplifications for Insurance Undertakings

  • Poufinas T
  • Tsitsika P
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Abstract

The Solvency II regulatory framework has been implemented as of January 1st, 2016 and among other things it introduced economic risk-based capital requirements across all EU Member States for the first time, applicable for insurance and reinsurance undertakings. Similar to Basel II whose scope is banks, the Solvency II directive provides a new regime based on three pillars for insurers and reinsurers: 1) pillar 1: harmonized valuation and risk based capital requirements, 2) pillar 2: harmonized governance and risk management requirements and 3) pillar 3: harmonized supervisory reporting and public disclosure. The Solvency Capital Requirement (SCR) should correspond to the Value-at-Risk of the basic own funds of an insurance or reinsurance undertaking subject to a confidence level of 99.5% over a one-year period. The Solvency II directive provides a range of methods to calculate the SCR. This allows insurance or reinsurance undertakings to choose a method that is proportionate to the nature, scale and complexity of the risk that is measured. In order to calculate the SCR, an insurance undertaking can use a fully internal model, the standard formula and a partial internal model, the standard formula with undertaking-specific parameters, the standard formula as it is or a simplification. When introducing a simplification, the SCR estimate could deviate from the calculation without the simplification. A simplification could lead in important/crucial information missing from the SCR calculation. In some occasions the SCR is overestimated and in some others it is underestimated. It is therefore of interest to find the range of this deviation, potential bounds—if any and the effect it can have on the required capital. In this paper we attempt to measure this deviation for simplifications pertaining to the interest rate risk for insurance companies.

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Poufinas, T., & Tsitsika, P. (2018). An Assessment of the Market Risk Solvency Capital Requirement Simplifications for Insurance Undertakings. Theoretical Economics Letters, 08(11), 2363–2387. https://doi.org/10.4236/tel.2018.811153

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