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Solvency II – towards a new insurancesupervisory system in the EUUlf Linder Administrator & Vesa Ronkainena European Commission, Internal Marker Directorate-General,Avenue de Cortenbergh 107, BE-10000, Brussels, Belgium Phone:+32-2-298 22 76 E-mail:b National Expert, European Commission, Internal MarketDirectorate-General, Avenue de Cortenbergh 107, BE-10000,Brussels, Belgium E-mail:Published online: 01 Sep 2006.

To cite this article: Ulf Linder Administrator & Vesa Ronkainen (2004) Solvency II – towards a newinsurance supervisory system in the EU, Scandinavian Actuarial Journal, 2004:6, 462-474, DOI:10.1080/03461230410000574

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Solvency II �/ Towards a New Insurance Supervisory System in

the EU1

ULF LINDER and VESA RONKAINEN

Linder U, Ronkainen V. Solvency II �/ Towards a new insurance

supervisory system in the EU. Scand. Actuarial J. 2004; 6: 462�/474

This article describes the current state of affairs in the EU Solvency II

project. The background and international context of the project is

discussed, as well as the general outline of a future EU solvency system.

In particular, several areas where further technical work is needed are

outlined. These topics could provide interesting objects of study for

professionals of actuarial sciences as well as to those of other related

sciences. Key words: Solvency II, insurance supervision, capital requirement,

solvency margin, risk-based capital, technical provisions.

1. INTRODUCTION

The insurance sector carries significant importance in Europe. On voluntary as well

as on statutory basis it provides cover against various risks facing the citizens,

corporations and other organisations. In addition, collecting long-term savings of

millions of Europeans, it is the largest institutional investor on EU stock exchanges.

Recent catastrophic events �/ whether natural or man-made �/ have highlighted the

significance of having a stable and solvent insurance sector. Finally, over one million

Europeans work in the insurance sector. An appropriate prudential framework for

insurance is therefore a key interest to a large number of stakeholders.

The current EU solvency system concerning minimum capital requirements of

insurance undertakings is based on simple ratios that are calculated as percentages of

risk exposure measures (e.g. technical provisions, premiums or claims). Their focus is

mainly on insurance risks, although for with-profit (participating) life assurance a

factor based on technical provisions (4%) takes account also of investment risk (for a

more detailed description see [6] or [21] for example). The EU solvency system,

introduced in the 1970s, has served us well and has played a significant role

in increasing the quality of supervision of insurance undertakings. The system was

however conceived in a period when the general economic features as well

as insurance practices were different. Insurance companies are today faced with

a different business situation with increasing competition, convergence between

1 Ulf Linder is Administrator in the Insurance Unit at the European Commission. Vesa Ronkainen is

national expert in the same unit. The views expressed are those of the authors, and not necessarily those of

the European Commission.

Scand. Actuarial J. 2004; 6: 462�/474�ORIGINAL ARTICLE

# 2004 Taylor & Francis. ISSN 0346-1238 DOI:10.1080/03461230410000574

Scand. Actuarial J. 2004; 6: 462�/474

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financial sectors as well as international dependence (more on international aspects

later). At the same time insurance, asset, and risk management methods and

techniques have been significantly refined. The recent economic downturn and

volatile financial markets have also put the insurance sector’s solvency and risk

management under significant pressure.

In 2000, as a first step in reforming the current solvency regime, the European

Commission initiated several changes to the current directives. These ‘‘Solvency I’’

enhancements included a 50% increase of capital requirement for the most volatile

classes of business (marine, aviation, general liability), supervisors’ powers were

improved (regarding early intervention and the solvency deduction for reinsurance),

monetary amounts were revised and index-linked (for more details, see [7]). However,

whilst approving these enhancements, many Member States remarked that the changed

business situation for insurance undertakings would call for a more fundamental

review in which the whole EU insurance supervisory architecture should be examined.

The Solvency II project was launched in 2000 in order to respond to these needs.

The objectives for the exercise should be to create a prudential framework that more

appropriately reflects the risks facing insurance undertakings. The system should also

include incentives for companies to assess and manage their risks. Furthermore, the

system should be in line with international developments in solvency, risk manage-

ment and accounting.

The project has been divided into two phases. In the first phase, Member States

and the Commission Services have studied a number of areas in order to decide on

the general design of a future EU solvency system (e.g. use of risk-based capital or

RBC systems, lessons to draw from the bankers’ Basle II process, use of internal

models, the new EU regulatory architecture or the so called Lamfalussy approach,

links between financial reporting and supervisory accounts, see [10] for more details).

The first phase was concluded in 2003 and the current second phase concentrates on

preparing legal EU texts as well as more detailed technical rules and guidance. This

paper concentrates mainly on the general issues decided in phase I, but also treats

certain areas of further work that are of interest to actuaries.

2. SOLVENCY II IN AN INTERNATIONAL CONTEXT

Currently much work is being done internationally and nationally in solvency,

insurance accounting and related fields such as risk management. Solvency II should

be seen as an integrated part of these developments. It is crucial that the Solvency II

system takes such international developments into account with the aim of

promoting best practice and further convergence in prudential standard setting.

We briefly describe the main reference projects for Solvency II, more details can be

found in the references mentioned below.

The International Association of Insurance Supervisors (IAIS) has started an

ambitious working programme covering qualitative as well as quantitative solvency

issues. The European Commission as well as Member States have given firm support

Scand. Actuarial J. 6 EU solvency system 463

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for the efforts of the IAIS to create a set of harmonised prudential rules for

worldwide use. Consequently it is obvious that IAIS solvency principles, standards

and guidance (cf. [18]) will be at the core of the Solvency II work. We believe that co-

ordination between the two projects is possible and mutually beneficial. The timing

of future IAIS solvency work seems to be well in line with that of Solvency II. In their

recent papers ([13] and [14]), the Commission Services have explained the intention to

use IAIS standards and guidance as basis for the future regulations on insurance

supervision in the EU.

It is likely that the next generation of solvency methods and tools will require

considerable input from specialists, especially actuaries. The authors believe that the

actuarial profession will have a prominent role in advising the Commission, Member

States and supervisors on the technical issues included in Solvency II. The

Commission Services have a longstanding cooperation with the umbrella organisa-

tion of EU actuarial associations �/ Groupe Consultatif Actuariel Europeen �/ and

this organisation is also clearly linked to the work of the International Actuarial

Association (IAA). The IAA has recently finalised a highly interesting report on a

global framework for insurer solvency assessment [17]. Furthermore, the IAA has

started a new working group to assist jurisdictions that would like to use the IAA

model for reforming their solvency systems. We can see considerable benefits in

developing and applying internationally recognised standards when it comes to

capital requirements and valuation of technical provisions.

In addition to the above mentioned global projects, several EU Member States

(e.g. the UK, the Netherlands, Sweden, Finland) as well as European insurance

industry (CEA) are working on solvency issues. Lastly, there are several other

interesting on-going projects globally where new solvency models are being

developed (e.g. Switzerland, Australia [1], the US, Canada).

The proposed new capital adequacy framework for banks and investment firms

(‘‘CAD 3’’ or ‘‘Basle II’’) is an important point of reference, particularly from pillar 2

supervisory review, group supervision and cross-sector point view (for more details

see [11]).

Accounting rules will be a cornerstone of the new Solvency II system. A recent

report from the Forum Group on Reporting Requirements [9] has emphasised the

need to avoid multiple set of accounts and the crucial role of the International

Accounting Standards Board (IASB) for the convergence of financial and regulatory

reporting rules. The much debated insurance accounting project of the IASB will

have a clear impact on the Solvency II project. To the extent possible the intention

should be to implement accounting rules which are compatible with the likely

outcome of IASB work. In areas where the supervisors’ need for information is not

fulfilled by IASB financial statements, adjustments or additions may be necessary. In

view of the current discussion, it is worth noticing that it is the phase II of the IASB

insurance project that is relevant reference for Solvency II. It is a challenge to design

an accounting basis for Solvency II when IASB has not yet decided on the final

solutions for the second phase of its project. But in this regard we are in a good

464 U. Linder & V. Ronkainen Scand. Actuarial J. 6

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company with several other on-going solvency projects in the EU Member States.

The IAIS has also started a working program to investigate the extent to which IASB

rules can be used for supervisory purposes. Generally, the authors believe that a

coming IASB phase II will likely be based on realistic estimates of values of assets

and liabilities combined with discounting and disclosed prudence margins. The likely

delay in IASB phase II may have an impact on the overall timing of the Solvency II

project. However, Solvency II development work, provided that we work reasonably

in the same direction, will give useful input to the IASB work.

3. GENERAL CONSIDERATIONS FOR A NEW EU PRUDENTIAL

SUPERVISORY SYSTEM

A new Solvency II regime should go beyond purely quantitative calculations and focus

on the overall solvency of an insurance undertaking. This means that the system

should not only consist of a number of formulas and indicators, but also cover

qualitative aspects that influence the risk-standing of an undertaking (management,

internal control and risk management, competitive situation etc.). The same approach

has been used in the banking field, and there is general consensus that a Basle-type

three-pillar structure could be appropriate also in insurance supervision (see [11] and

[13]). The starting point is to include quantitative rules in the first pillar, primarily

qualitative elements in the second, and disclosure in the third. However, it is important

that the specific aspects of insurance (e.g. the nature of liabilities and their links to the

asset side) are reflected when taking over a banking-inspired structure.

The new solvency system should be considerably more risk-based than the current

one. Such an approach will consist of different elements. Companies should be

encouraged and required to improve their risk analysis and risk mitigation

techniques. Furthermore the solvency requirements should be focused on capturing

most essential risks to which an insurance undertaking is exposed. Such a risk-

oriented approach would also include the possible use of insurance companies’

internal models for solvency calculation purposes. A more risk-based system will

enable companies to formulate their capital and earnings needs more exactly, which is

important in today’s harder capital markets. We have studied existing RBC systems in

detail (see [12]), and while these clearly include interesting solutions, Members States

do not see possible to base the future EU system on an existing system (for example

in the way that Japan based its new solvency system on the US RBC). The authors

find interesting elements in the Australian [1], the Canadian [23], the UK [16], and

the Dutch [24] models, but are also pleased to note the advances made in Finland

(fine-tuning their well-established solvency test [25]), Sweden (a proposed new RBC

system based on realistic values [19]) and Denmark (stress tests and Fair Value

approach to life assurance2).

2 See the speeches and articles on the supervisory authority’s website: finanstilsynet.inforce.dk

Scand. Actuarial J. 6 EU solvency system 465

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The aim of a future system should be to increase the level of harmonisation of

quantitative and qualitative supervisory methods and thereby contribute to the

creation of a level playing field within the insurance industry, as well as between

financial sectors. The insurance industry strongly supports a move towards

‘‘maximum harmonisation’’ rather than keeping the ‘‘minimum harmonisation’’

principle in the current directives. This challenging goal will however require

significant flexibility from Member States and insurance industry.

The convergence between financial sectors is continuing and it is imperative that

the general layout of the Solvency II system should to the greatest extent possible be

compatible with banking rules. Similar products should in principle be supervised in

the same way, regardless of the type of financial institution that has issued them.

When setting solvency requirements or capital adequacy standards, the risk of

regulatory arbitrage must be considered. The new system must also address

supervisory issues relating to insurance groups and financial conglomerates. All

these developments imply that a broad view and understanding of the whole financial

sector is needed when the Solvency II system is being developed and implemented.

The authors furthermore believe that the awareness of the Solvency II in the banking

sector is increasing and the approaches chosen in insurance could provide inspiration

to other sectors of finance as well.

4. OUTLINE OF A FUTURE THREE-PILLAR SYSTEM IN INSURANCE

SUPERVISION IN THE EU AND THE MAIN ACTUARIAL ISSUES

The Commission Services have received significant support from Member States and

the insurance industry for the general outline of a future solvency system. Below we

will go through the most important aspects of the different areas. In doing this we

will underline issues that should be especially interesting to actuarial world. It is

however necessary to remember that we are at an early stage in the work, and some

adaptations are likely to occur. The Commission Services have organised several

rounds of consultations on Solvency II. Recently a detailed consultation on technical

issues was carried through [14] and [15], after which detailed technical work would be

delegated to insurance supervisors. The actuarial profession is expected to participate

actively in this work.

4.1. First pillar requirements

4.1.1. Technical provisions. A first important and challenging step is to achieve

more harmonised and transparent technical provisions in the EU. At the moment the

insurance directives require technical provisions to be prudently estimated, but do not

give any detailed guidance (cf. [14]). There has been significant support from Member

States for establishing a quantitative benchmark for the prudence level in technical

provisions. Such an approach for non-life insurance has been implemented in

Australia at a 75% percentile (or mean�/50% of coefficient of variation if larger, see

[1]), and the Netherlands is currently working towards a similar rule. It seems to us

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that such a method would also be broadly in line with current IASB thinking. The

Services’ proposal in [14], that a natural starting point when establishing technical

provisions would be to estimate expected values of the relevant distributions and then

add explicitly defined risk margins, got support from many commentators. However,

several technical approaches for risk margins would be possible and thus further

analysis of their pros and cons both from theoretical and practical point of view is

needed (margins could be based on percentiles or moments for example, or on the

market value margin approach of IASB, or we could use the same methods that will be

applied in the solvency calculations but with a different confidence level). After

choosing suitable method(s), the desired level of prudence needs to be established.

This can be based on regulations (Australian model) or market forces (IASB market

value margin model, cf. [14]). Australia has used a model where actuarial firms

(Tillinghast-Towers Perrin and Trowbridge Consulting) have calculated benchmark-

values for the risk margins to start with (see [14]). This difficult issue has many facets:

technical challenges, national differences, non-harmonised accounting principles,

requirements of supervisory and tax authorities. The main question is how to make a

distinction between technical provisions, capital, and total required capital (target

capital). This requires an analysis of the desired role of technical provisions in the

future solvency and accounting regime. Ultimately an EU policy decision will be

needed. In any case it is important to try to minimise any additional (actuarial) work

and obviously it is important that these different balance sheet elements are disclosed.

The current life provisioning rules will also be reviewed in the light of the new

financial reporting rules. There are several additional aspects that need to be

addressed in life assurance, for example the discount or technical interest rate and the

valuation of guarantees and options embedded in products. The Services lean

towards the IASB proposals, i.e. prefer a risk-free market interest rate of relevant

duration and currency, and explicit valuation of guarantees and options. The

challenge in the EU is to find a practical approach towards marked-consistent

valuation. This may include traditional, mainly deterministic, techniques as well as

stochastic analysis methods of financial mathematics (e.g. option pricing models such

as arbitrage-free pricing and replicating portfolios, stochastic discounting and

deflators, incomplete market models). Option pricing techniques may, however, not

yet be well-established enough in insurance context for EU wide use although they

provide useful benchmarks when pricing and valuing investment related parts of

insurance contracts3. Another difficult question is how to value bonuses in with-

profit business. The discretionary nature of many of these features lead to

considerable difficulties for model builders. The authors believe that this process

towards well-defined profit-sharing rules between policyholders and insurance

companies is in itself positive although certain smoothing possibilities may be

3 It seems to us that idealistic models based on assumption of arbitrage-free and complete (hedgeable)

market may not be very accurate in the current insurance context, and incomplete market models with a

longer-term view may be more appropriate. However, the models should be calibrated to give market-

consistent results.

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reduced for insurance companies. In this regard there is a link to the IASB-based

accounting thinking in which a clear distinction is made between capital and

liabilities. When a bonus policy rule is clearly defined, discounted expected cash-

flows, supplemented by ALM and possibly option pricing4 methods, could be used

for valuation. As a regular ALM analysis would be required in the future, it seems

natural to include bonuses in this analysis (the Groupe Consultatif supported this

approach in their comments on [14]).

Finally one question remains: how strict should the level of harmonisation

regarding technical provisions be? As the current situation is unsatisfactory, the

authors believe that EU wide maximum harmonisation should be the goal. Taking

into account that in the future insurance directives will be principles-based as will be

the accounting standards, maximum harmonisation requires more detailed rules

which should be given in EU level implementing measures and in international

actuarial guidance.

4.1.2. Capital requirements in the future EU system. The Commission staff has

proposed that the Solvency II system should have two binding levels of regulatory

capital requirements: a main target capital level as well as a minimum capital, or

‘‘safety net’’, level. Specific actions should be linked to the non-fulfilment of either of

the levels. The higher ‘‘target capital’’ level (or ‘‘solvency capital requirement’’ in our

most recent papers) should in principle reflect the economic capital that a company

would need to operate with a quantified low probability of failure. We believe that the

target level would become the main supervisory tool in the future.

The target level solvency requirement could be calculated by a prescribed standard

formula (to be developed), or by using an entity-specific internal model. It is worth

highlighting that non-fulfilment of the target level would trigger supervisory review

and appropriate corrective actions. Significant work on both these approaches is

currently underway in the IAA as well as in the Comite Europeen des Assurance

(CEA, see for example their comments on [14] on the Commission insurance website)

and some Member States. It is foreseen that internal models, validated by

supervisors, could be used for determination of the target capital level.

There are several major technical questions to be solved regarding the target

solvency capital requirement, for example the following issues have been recently

raised by the Commission for consultation (cf. [14]):

(1) What risks should be included in the target capital requirement? It is clear that

insurance risk must be considered, but it is equally important that asset risk is

treated in a more explicit way in the new system than in the current. Obviously

the whole balance sheet needs to be addressed through risk assessment and

quantification (IAA [17] refers to ‘‘total balance sheet’’ approach). However, in

4 Regarding bonuses, we believe that path-dependent exotic options such as Asian and barrier options

as well as mean-reversion models could provide useful benchmarks. The structure and pricing of these

options is explained in standard textbooks such as [20] and [22].

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Solvency II as in Basle II, the most difficult modelling question may be how to

deal with operational risk. It is known that operational risks are significant also

in insurance [2] but their reliable quantification is difficult (modelling, parameter

estimation etc).

The authors tend to believe that operational risk is more suitably dealt with by

governance rules and the pillar 2 supervisory review process as at the moment

realistic modelling of this risk is difficult, and depending crucially on risk

management and internal controls of an undertaking. However, several

comments on [14] underlined that operational risk should also be included in

the pillar 1 to be consistent with the approach taken in the Basle II project. The

Commission Services have suggested using the risk classification of the IAA as a

starting point (i.e. underwriting risk, credit risk, market risk, operational risk

and liquidity risk [17] ).

(2) What risk measure and measurement assumptions should be used? Risk measures

have been studied actively in actuarial sciences and several measures have been

proposed, such as probability of ruin (or Value at Risk, VaR), conditional tail

expectation (TailVaR), and moment-based measures (for a review see [5] and the

references therein). The VaR is a traditional, well-known and widely used risk

measure (e.g. some Member States, rating agencies, banking sector). However,

the skewness of distributions and tail-behaviour requires careful consideration

and the TailVaR measure takes these aspects readily into account. The Services

tentatively outlined that one practical option might be a combination: to use

simple approximations in the standard formula and a more complicated method

for internal models, and make a distinction between the lines of business

(TailVaR could be used for skew lines and VaR otherwise). The consultation on

[14] confirmed that both methods have their pros and cons (for more details see

analyses included in the comments of actuaries, consultants and industry).

While the issue of risk measurement is important and technically interesting, the

main policy issue from regulators’ and industry’s point of view is the calibration

and the resulting level of capitalisation, not the formula itself. This decision

necessitates considerable amount of stakeholder discussion which in turn

presupposes that several rounds of field-test calculations are performed.

(3) How should risk dependencies be addressed? Should we take into account

correlations between different risks and how? We know that a key issue in

insurance and investment risk management is diversification, but modelling and

estimation is difficult because of non-stationary and non-linear tail-dependen-

cies of certain risks (see for example the discussion on copulas in [17], [8], [3] and

[4]). The main problem is that in certain market conditions diversification

benefits may decrease or even disappear. Australia seems to take correlations

into account in internal models but not in the standard model. The consultation

on [14] showed that the views in the EU are diverse on this issue. The authors

believe that correlation coefficients if estimated prudently enough could be an

appropriate measure but it is too early to say what will be the final solution.

Scand. Actuarial J. 6 EU solvency system 469

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(4) What type of calculation formula should be used �/ scenario or distribution based

or factor �/ based (RBC)? In many jurisdictions a scenario-based approach has

been implemented in life assurance (in the UK, the Netherlands and Singapore

for example) while in non-life sector factor based or RBC models are more

common (e.g. Finland, Australia, the US). In internal models probability

distributions seem as an obvious approach. The standard formula, be it factor or

scenario-based or a combination, is necessarily an approximation to the actual

distribution of company’s risk profile. Internal models would be able to

approximate this distribution more accurately.

(5) Internal model approach to capital requirements (or ‘‘advanced approach’’ in

Basle II terms) is a major step forward in risk management and as such it should

be encouraged although several new issues need to be solved. For supervisory

purposes validation and approval rules and standards for internal models need

to be formulated. This means that well-established actuarial methods (mathe-

matical, statistical, financial) should be used in modelling; parameter estimation

should include appropriate statistical analysis and back-testing; model structure

should be documented; IT and risk management system should be audited, the

model should be integrated to internal processes and so on (see [17] chapter 7.4

and [1]). To function properly the new system will have considerable resource

and education implications for companies and supervisors. A functional and

practical system in the EU needs to be found and it is likely to include the

possibility to use outside resources such as independent actuaries. As far as we

are aware, in Australia the introduction of internally calculated capital

requirements is progressing rather slowly.

The minimum capital level or ‘‘safety margin’’ should serve as a trigger level for

severe supervisory actions. Many Member States as well as the industry believe that it

should be calculated in a simple and objective way, as supervisory actions at this level

may need court decisions in certain jurisdictions. Given the case, the calculation

modalities for the safety margin could be quite similar to those of the current

solvency margin, with suitable adjustments. However, there are several issues that

should be considered when more insight has been gained from the development work

concerning the target solvency capital formula, e.g. the treatment of investment risk

and the calibration (linkage to the prudence of technical provisions etc). The

Commission Services have indicated that the current level of prudence should remain

and a simple formula as currently would be preferable in order to facilitate a smooth

transition. In the long run other approach may be needed.

Taking into account experience from Member States and companies’ economic

capital models, it seems likely to us that the new target solvency capital requirement

would normally be higher than the current minimum solvency requirement. However,

a harmonised calculation method and field-testing is necessary before any final

conclusions can be made.

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4.2. Second pillar requirements

Qualitative rules will become increasingly important in the Solvency II system as a

necessary complement to the pillar 1 methods. The complexity of insurance business

and risk management techniques in the future will be such that no formulas or

models could capture the situation fully, and this calls for a supervisory review

process with highly skilled supervisory staff. There is certainly a need for increased

EU harmonisation of important aspects of the supervisory review process, but room

must also be left for entity-specific analysis and methods.

The second pillar will include principles for internal control and sound risk

management of insurance undertakings. Inspiration can be taken from recent work

by the European supervisors [2] as well as the banking sector’s Basle II proposals.

The financial risk management of undertakings could also be improved by requiring

an investment policy plan. Special importance should be attached to asset-liability

matching/management and to the structure of the reinsurance programme of an

insurance undertaking. To complement Pillar 1 quantitative rules, early-warning

indicators and reference scenarios for stress tests could also be harmonised at

European level, with possibilities for national adaptations (certain risks such as

shocks as well as long-term forecasts might best be addressed through Pillar 2).

Minimum criteria for on-site inspections could be set. Special considerations may

also be needed in the area of corporate governance. Several Commission initiatives

are currently taken in this area (these are available at the Commission Internal

Market website, the web-address is given in references).

The current problems in financial markets have indicated the need for co-ordinated

supervisory action where one or several undertakings, or an entire sector, face

problems to fulfil prudential requirements. In addition, the system should aim at

avoiding pro-cyclical requirements that could aggravate an already difficult situation.

However, pro-cyclicality is a difficult problem to solve: as far as we know all risk

sensitive solvency systems are more or less criticized about this phenomenon. Sound

risk management should start to action early enough in order to have as much time

and tools available as possible for necessary corrective actions. Consequently pillar 2

longer-term supervisory measures such as continuity testing [24] seem important.

The idea of peer reviews, i.e. independent assessments carried out by professional

supervisory colleagues, seems interesting to us. It could provide benefits in terms of

increased harmonisation, level playing field, and sharing of best practice, if applied to

EU insurance supervision (see [13]). Inspiration could be found from the US

accreditation system. International discussion on this issue is going on in the IAIS.

4.3. Third pillar requirements

We believe that disclosure and transparency will play an essential role in the future

Solvency II system by reinforcing market mechanisms and risk-based supervision. It

is furthermore important that the requirements under this pillar will be closely

aligned to the contents of the other two pillars as well as to the outcome of the IASB

and IAIS projects. The IAIS enhanced disclosure subcommittee has an ambitious

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working programme in place. Phase I of the IASB insurance project provides certain

inspiration for disclosure already. It seems clear to us that the new IASB rules will

significantly increase the level of information in the public domain. However,

important issues concerning the administrative burden on undertakings as well as

confidentiality must be addressed.

5. ORGANISATION OF THE SOLVENCY II WORK �/ NEXT STEPS

The Solvency II project not only involves a large number of highly technically

complex issues, but the vast field of activity also constitutes a real challenge for

managing and organising the work. The Commission Services together with Member

States are currently working on finding a suitable organisation for the project. The

Commission Services are pleased that the national supervisors have shown clear

willingness to allocate significant resources to this work.

In this area the Commission has recently put forward a proposal that the use of the

new regulatory framework in the EU, the so-called ‘‘Lamfalussy’’ system, should be

extended from the securities sector to the insurance and banking sectors. This

proposal has already been agreed on by the Council and the Parliament in principle,

and if formally approved by the co-legislators, it should provide an efficient legal

infrastructure for a highly technical project as Solvency II. Notably it would allow

the framework directive (level 1) to concentrate on principles, while more technical

regulations and formulas could be given in binding implementing measures (level 2).

Furthermore, supervisors could give non-binding guidance (level 3). Finally the

Commission will have its role to enforce that EU legislation is appropriately observed

(level 4).

A large part of the technical work will be carried out by supervisors through the

recently established Committee of European Insurance and Occupational Pension

Supervisors (CEIOPS). We have already had significant input from supervisors’

groups on trends in insurance insolvencies [2]. CEIOPS has started several working

groups to deal with Solvency II areas. Over 100 experts from EU insurance

supervisors participate in these groups.

The Commission Services believe that it is important that a large and complex

project as Solvency II is handled in an open and transparent way. Input from the

insurance industry, specialists and other interested parties is absolutely essential for

the success of this project. Many of the issues under discussion relate to cutting-edge

research and we must be able to profit from the experience of the best specialists in

authorities and companies as well as in academic world, in Europe as well as

internationally. This obviously will bring challenges and opportunities for the

actuarial community for years to come.

We should note that the Groupe Consultatif has already put in place a project

structure and is prepared to provide sizeable resources for the Solvency II which we

find highly important.

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Solvency II is a long-term project and this fact makes estimation of timing of

certain phases difficult. In their recent document for the Insurance Committee’s

meeting on 30 June 2004, the Commission Services reiterated their intention to

present a draft framework directive by the end of 2005 while the implementing

measures could be finalised towards the end of 2008. Furthermore the Services

presented a framework for consultation giving the general policy-lines to be followed

in further technical work. More detailed technical work to be made by CEIOPS is

formulated through specific calls for advice which are being prepared by the Services

in three instalments by the beginning of 2005. It is likely that different parts of the

system will be introduced gradually, rather than a ‘‘big bang’’. For a certain time

there will be a co-existence of old and new supervisory rules in order to enhance the

understanding of potential differences in the approaches and to ensure a smooth

transition. Finally, our interdependence on other international projects, especially the

IASB insurance project phase II and IAIS solvency project, also makes the exact

assessment of the timing uncertain at the moment.

REFERENCES

[1] Australian prudential standards for insurance companies, available on the APRA website: www.apra.

gov.au.

[2] The Conference of Insurance Supervisory Services of EU member states (the predecessor of the

Committee of European Insurance and Occupational Pension Supervisors, CEIOPS): Report on

prudential supervision of insurance undertakings, 2002. Available online at the Commission’s

insurance website: http://europa.eu.int/comm/internal_market/insurance/

[3] Dhaene, J., Denuit, M., Goovaerts, M. J., Kaas, R. & Vyncke, D. (2002a). The concept of

comonotonicity in actuarial science and finance: theory, Insurance: Mathematics & Economics 31

(1), 3�/33.

[4] Dhaene, J., Denuit, M., Goovaerts, M. J., Kaas, R. & Vyncke, D. (2002b). The concept of

comonotonicity in actuarial science and finance: applications. Insurance: Mathematics & Economics

31 (2), 133�/161.

[5] Dhaene, J., Vanduffel, S., Tang, Q., Goovaerts, M. J., Kaas, R. & Vyncke, D. (2003): Capital

requirements, risk measures and comonotonicity: a review, online at www.kuleuven.ac.be/insurance,

publications.

[6] Directives 73/239/EEC and 79/267/EEC of the European Parliament and Council (the first non-life

and life insurance directives) as given in Official Journal L 228, 16/08/1973 P. 0003�/0019 and Official

Journal L 063, 13/03/1979 P. 0001�/0018.

[7] Directives 2002/12/EC and 2002/13/EC of the European Parliament and Council (‘‘Solvency I’’

directives) as given in Official Journal L 077, 20/03/2002 P. 0011�/0016 and Official Journal L 077, 20/

03/2002 P. 0017 �/0022.

[8] Embrechts, P., McNeil, A. & Straumann, D. (2002). Correlation and dependence in risk manage-

ment: properties and pitfalls. In M. A. H. Dempster (Ed.), Risk management: value at risk and beyond ,

pp. 176�/223. Cambridge: Cambridge University Press.

[9] European Commission report for the ECOFIN: Reporting requirements, Findings of the Forum

Group, Final Synthesis report 2002. This and Official documents concerning Lamfalussy-decisions

are available online at the Commission’s financial services’ web-site: http://europa.eu.int/comm/

internal_market/en/finances/cross-sector/index.htm/

[10] European Commission working papers MARKT/2535/02: ‘‘Considerations on the design of a future

prudential supervisory system’’ and MARKT/2536/02: ‘‘Review of work’’. All MARKT documents

can be downloaded from http://europa.eu.int/comm/internal_market/insurance/solvency_en.htm

[11] European Commission working paper MARKT/2056/01: ‘‘Banking rules �/ relevance for the

insurance sector?’’.

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[12] European Commission working paper MARKT/2085/01: ‘‘Risk-based Capital Systems’’.

[13] European Commission working paper MARKT/2539/03: ‘‘Reflections on the general outline of a

framework directive and mandates for further technical work’’.

[14] European Commission working paper MARKT/2543/03: ‘‘Organisation of work, discussion on pillar

1 work areas and suggestions of further work on pillar 2 for CEIOPS’’.

[15] European Commission working paper MARKT/2502/04: ‘‘Solvency II �/ Further issues for discussion

and suggestions for preparatory work for CEIOPS’’.

[16] The Financial Services Authority of the UK, FSA, consultation papers CP 190: Enhanced capital

requirements and individual capital assessments for non-life insurers (July 2003), and CP 195:

Enhanced capital requirements and individual capital assessments for life insurers (August 2003).

Available online at www.fsa.gov.uk

[17] IAA Insurer Solvency Assessment Working Party: A Global framework for insurer solvency

assessment, 2004.

[18] IAIS documents: insurance core principles, standards, guidance and on-going project papers, available

at their website: http://www.iaisweb.org/

[19] The Investment Commission Report: Proposal for a Modernised Solvency System for Insurance

Undertakings. Executive Summary by Ajne M., in ‘‘Svenska aktuarieforeningen 1904�/2004’’,

Stockholm, 2004.

[20] Joshi, M. (2003). The concepts and practice of mathematical finance. Cambridge: Cambridge

University Press.

[21] The KPMG Solvency Study for the European Commission: Study into the methodologies to assess

the overall financial position of an insurance undertaking from the perspective of prudential

supervision, 2002. KPMG Solvency Study available online at the Commission’s insurance website:

http://europa.eu.int/comm/internal_market/insurance/

[22] Musiela, M. & Rutkowski, M. (1998). Martingale methods in financial modelling . Berlin Heidelberg:

Springer-Verlag.

[23] Office of the Superintendent of Financial Institutions, OSFI: Capital Adequacy Requirement

Guidelines, available at www.osfi-bsif.gc.ca

[24] The Pension and Insurance Supervisory Authority for the Netherlands: Financial Assessment

Framework, at www.dnb.nl

[25] Pentikainen, T. & Rantala, J. (1982) Solvency of insurers and equalization reserves , Vols I and II. The

Insurance Publishing Company, Helsinki.

Addresses for correspondence:

Ulf Linder

Administrator, European Commission

Internal Market Directorate-General

Avenue de Cortenbergh 107

BE-1000, Brussels

Belgium

Tel.: �/32-2-299 22 76

E-mail: ulf.linder@cec.eu.int

Vesa Ronkainen

National Expert, European Commission

Internal Market Directorate-General

Avenue de Cortenbergh 107

BE-1000, Brussels

Belgium

E-mail: vesa.ronkainen@cec.eu.int

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