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Blurring Boundaries: The Insurance Market

by Marc Beckers

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This article was first published in Quantum magazine.

With the insurance sector facing similar regulatory scrutiny to the banking sector, some commentators argue it is a question of mistaken identity. But, says Marc Beckers, the real challenge for insurers is to re-establish their identity and redefine their business model.

Market Reform

The recent final repayment by AIG of US$205 billion to the US Treasury—covering the bailout plus a profit—is evidence that, after a traumatic period, the global insurance industry is on the way to recovery. Yet the industry finds itself facing regulatory constraints just as tough as those being imposed on the banking sector. There is a strong case for saying that these measures are not warranted.

The problems are compounded by uncertainty about the pace of reform. In the European Union, capital rules for insurers—under Solvency 2—could be in place as early as 2016. But some details are still being debated by the European Commission and the European Insurance and Occupational Pension Authority (EIOPA). The aim of Solvency 2 is to protect consumers by a more effective and consistent level of prudential regulation and supervision, which requires a much better alignment of risks and capital for insurers than did Solvency 1.

Achieving this objective will force many insurers to hold more capital to mitigate the impact from major financial shocks on shareholders’ equity. So far, more than £3 billion has been spent by the UK insurance industry alone in preparing for these new rules, which have been under discussion for longer than a decade. But now the regulators want to go even further.

Toward the end of last year, the International Association of Insurance Supervisors (IAIS) proposed more intensive measures for insurers deemed “too big to fail,” giving them until 2016 to start a risk reduction plan and set up sufficient capital buffers to absorb losses. The Financial Stability Board (FSB), guided by the IAIS, will now have to decide which insurers are in this category, based on criteria including size, global activity, and the amount of non-insurance business they operate.

But, in a sense, the debate over whether or not the insurance sector should have similar capital obligations to those imposed on banks is of secondary importance. The current state of the global economy dictates that the stakes are much higher than that. The low-interest-rate environment is having a negative impact on insurers’ credit quality and challenging their business models. This is exacerbated by the regulatory risk being experienced by the insurance sector as a whole.

Capital Requirements

In the wake of the financial crisis, banks are being forced to hold more capital—particularly the “too big to fail” banks; this, combined with additional regulatory pressures as the financial markets are reformed, has restricted the ability of banks to support the economy. Many would argue that it makes sense for regulators to be more stringent with insurance holding companies too, otherwise trading activities too costly for the banks will simply be transferred.

However, there is another side to the argument, which is being advanced with increasing vigor by the insurance industry. The Institute of International Finance is worried about the impact on the cost of cover to the end-user. It argues that a capital surcharge, if applied to all large insurers, would make it harder for them to pool risk, pushing up the cost of cover and forcing more households and businesses to rely on the state for protection.

The Geneva Association, an international insurance thinktank with a membership of 90 chief executives, fears that placing higher capital requirements on insurers will result in less insurance and lower growth. It is also highlighting the differences between the insurance and banking industries, arguing that the largest globally active insurers are smaller, less dependent on short-term funding and less connected with other financial institutions than the largest banks. Their research estimates that the world’s biggest 28 insurance companies are, on average, a quarter of the size of the largest 28 banks.

Moreover, it claims that the larger an insurer becomes, the more financially stable it is, since policyholder risks are not correlated. If insurers are designated as systemically important due to their intra-financial exposures, it is probable that in order to meet higher capital requirements, they will buy industrials rather than bank-subordinated debt; this in turn will erode demand for bank securities.

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Further reading


  • Standard & Poor’s. “Out of the shadows: The rise of alternative financing in infrastructure.” January 31, 2013. Online at: [PDF].

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