37. Capital Requirements

Question 1

Regulatory solvency capital is total of

Answer 1

1. Prudential margins in regulatory liability valuation basis
2. Amount of additional solvency capital in excess of regulatory provisions

Question 2

Approaches for SCR

Answer 2

1. Best estimate for provisions + significant capital as buffer for adverse experience
2. Prudent provisions + formula-based additional capital requirements

Question 3

Disadvantages of using prudent provisions + simple formula

Answer 3

Levels of prudence required vary between providers&raquo_space;> difficult to make provisions

Solvency requirements are not risk-based&raquo_space;> difficult to ensure sufficient security of benefits

Question 4

3 Pillars for Solvency II

Answer 4

1. Quantification of risk exposures and capital requirements
2. Supervisory regime
3. Disclosure

Question 5

Levels of capital requirements under Solvency II

Answer 5

MCR- threshold at which companies won’t be permitted to trade

SCR- target level below which companies may need to discuss remedies with regulators (Uses std formula)

Question 6

Merits of using std formula for Solvency II

Answer 6

Advantages:
- Less complex and time consuming

Disadvantages:

• Fits risk profile of average insurer
• Approximations are made in modelling risks&raquo_space;> not necessarily appropriate to the actual companies using it

Question 7

Basel Accords

Answer 7

Set requirements for amount of capital banks must hold to reflect level of risk in the business they write and manage

Pillars:

1. Minimum capital requirements
2. Risk management and supervision
3. Market discipline and disclosure

Question 8

Economic capital

Answer 8

• Determined by provider

- Capital that’s appropriate to hold given assets, liabilities and business objectives

Question 9

Economic balance sheet

Answer 9

• Assets and Liabilities are at market value

- A - L is economic capital requirement

Question 10

Merits of internal models

Answer 10

Advantages:

• Better reflects insurer’s risks
• Market credibility
• May result in lower capital requirement

Disadvantages:

• Needs regulatory approval
• Expensive to build, validate and gain approval

Question 11

Uses of internal models

Answer 11

• Calculate economic capital using diff risk measures e.g. VaR
• Calculate levels of confidence in level of eco capital calculated
• Apply diff time horizons to assessment of solvency and risk
• Include other risk classes not incl in std formula

Question 12

Pillar 1: Quantification of risk exposures and capital requirements

Answer 12

• Rules for valuing assets and liabilities.
• Minimum Capital Requirement - threshold at which companies will no longer be permitted to trade.
• Solvency Capital Requirement - target level below which companies may need to discuss remedies with the regulator.
• SCR may be calculated using a prescribed model or approved internal model.

Question 13

Pillar 2: Supervisory regimes

Answer 13

• Qualitative aspects, e.g. internal controls and risk management processes.
• Includes monitoring visits to companies by regulator.

Question 14

Pillar 3: Disclosure requirements

Answer 14

• Includes public disclosure and private disclosure to regulator.
• May include financial reporting, business activities, risk profile.