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Effective Insurance Supervision


Title: Corporate Governance and Internal Control Author: local_laptop Last modified by: Corporate User Created Date: 8/18/2003 12:59:32 PM Document presentation format – PowerPoint PPT presentation

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Title: Effective Insurance Supervision

Effective Insurance Supervision Moving Towards
a Risk-based Approach
  • Regional Seminar on Capital Adequacy and
    Risk-based Supervisionfor Supervisors in Latin
  • Rio de Janeiro, Brazil, 10-11 May 2007
  • Gunilla Borer
  • Senior Financial Sector Specialist

Various objectives of supervisory activities
  • Ensure compliance with statutory requirements,
    e.g. capital
  • Assess risks of a company
  • Assess management and controls of a company
  • Respond to problems identified
  • Deal with company requests for approval,
    information etc
  • Monitor company and industry developments
  • Take action where necessary and ensure that
    companies respond to supervisory requirements

Challenges in planning supervisory activities
  • Allocation of resources
  • Prioritisation of activities
  • Off-site monitoring and/or on-site inspection
  • Reliance on external experts, e.g. auditors,
    actuaries and lawyers
  • Traditional versus risk based approach

Traditional supervision
  • Ensuring safety and soundness of financial
    institutions by devising a comprehensive set of
    rules and good behaviour
  • Rules apply to all financial institutions and can
    be enforced by law
  • Examples solvency requirements and investment
  • Ensuring compliance by applying sanctions of
    various degrees

Moving from rules to principles
  • One-size-fits-all rules are less effective for
    modern or complex institutions
  • With principle-based rules or best practice
    supervisory action needs to focus on risks and
    risk management practices
  • Need to identify the key risks and evaluating the
    significance of these risks

Limits to principles
  • Supervisory review can be based on principles to
    a large extent
  • Sanctions need some rules to be in place
    otherwise no predictability or accountability
  • Minimum rules with some room for personal
    discretion could take care of that problem
  • Solvency rules are usually described in terms of
    minimum rules and/or providing a standard formula
    also where internal models are allowed

Risk-based solvency requirements
  • Risk-based supervisory process ideally requires a
    risk-based solvency framework
  • Risk management is costly promotion of better
    practices requires incentives and rewards
  • Selection process and supervisory focus could
    still be risk-based
  • We will look at the supervisory process only

This is what risk-based supervision is doing
  • Assessing the business of an insurance company,
    its risk profile and the macro-economic context
  • One dimensional risks profile of individual
  • Two dimensional also systemic importance
  • Looking at the possibility of failure and its
  • Designing effective supervisory plans and making
    appropriate use of supervisory tools

Typical approach
  • Identify significant business areas
  • Disaggregate into most important inherent risks
  • Grade the risks (high, above average, moderate or
  • Evaluate effectiveness of controls
    (operational/business line management and
    independent oversight/board etc. strong,
    acceptable, needs improvement and weak)
  • Evaluate net risk by combining the two levels of
  • Possibility of adding a second dimension
    potential impact of a failure on the financial
  • Determine a risk rating of the institution based
    on the evaluations
  • Use the risk rating as a basis for supervisory
  • Update risk rating regularly

Requirements and challenges
  • Higher levels of experience and skills than
    traditional rule-based supervision
  • Inventory of best practices and assessment
  • Sophisticated methodology (internal manuals,
    training etc.)
  • Sophisticated and largely subjective judgements
    (not objectively correct) temptation to overlay
    non-risk-based practices on top
  • Supervisory judgements may be challenged by
    financial institutions difficulties to prove

Where and when to start
  • Timing Determine when to start and how long the
    process will take (rule-based supervision may be
    more effective for some time) can take 5-10
    years to implement
  • Expertise Have a critical mass of experienced
    supervisors with deep understanding of the
    risk-based supervisory methodology, financial
    system, institutions, their business activities
    and risk management develop training programmes
  • Methodology Develop methodology (unwise to
    simply import methodology of another supervisory
  • Acceptance Information and support

But first.
  • In order to introduce a risk-based system we need
    to have proper infrastructure and supervisory
  • We also need to have sufficient supervisory
    resources and proper tools in place

Conditions for effective supervision (ICP 1)
  • Policy, institutional and legal framework for
    financial sector supervision
  • Financial market infrastructure
  • Legal and court system, enforceable decisions
  • Accounting, actuarial and auditing standards
  • Accountants, actuaries and auditors
  • Basic economic, financial and social statistics
  • Efficient financial markets
  • Availability of both long-term and short-term
    investment opportunities
  • Possible additional supervisory powers where the
    conditions are not yet sufficient

ICPs regulating the supervisory authority
  • ICP 2 Supervisory objectives
  • ICP 3 Supervisory authority
  • ICP 4 Supervisory process
  • ICP 5 Supervisory cooperation and information
  • What supervisory system do we need to have in
    place, what should we strive to achieve, and how
    can our objectives be fulfilled and measured

Supervisory Objectives (ICP 2)
  • Legislation should clearly define the objectives
    (should be relevant)
  • Key objectives Promote efficient, fair, safe and
    stable insurance markets for the benefit and
    protection of the policyholders
  • Disclose and explain how the objectives will be
    applied if multiple
  • Deviations from objectives should be explained
  • If contradictive initiate or propose
    corrections in law

Supervisory Authority (ICP 3)
  • Adequate powers, legal protection and financial
    resources to exercise its functions and powers
  • Operational independence and accountability
  • Hire, train and maintain sufficient staff with
    high professional standards (enough resources and
    public audited financial statements)
  • Appropriate treatment of confidential information
    (however transparency and co-operation)

Independence and accountability
  • Governance structure, internal governance
    procedures and internal audit arrangements
  • Procedures for appointment and dismissal of head
    and members of governing body (public)
  • Institutional relationships with executive and
    judiciary branches
  • Free from undue political, governmental and
    industry interference
  • Financed in a manner that does not undermine
  • Allocate funds in accordance with mandate,
    objectives and risks
  • Transparent process and procedures
  • Prior consultation with market participants in
    case of material changes in legislation and

Supervisory Process (ICP 4)
  • Transparency and accountability
  • Public and adequate regulatory and supervisory
  • Consistent application of regulations and
    processes, taking different risk profiles into
    consideration (risk-based)
  • Decisions subject to judicial review

Supervisory Cooperation (ICP 5)
  • Efficient and timely exchange of information
    among supervisory bodies, cross-border and
  • Regularly or on demand
  • MoU or informal agreement
  • Information sharing arrangements should
    facilitate prompt and appropriate action
  • Consultation with relevant supervisors
  • Confidentiality should be maintained for
    information shared

ICPs regulating the supervisory process
  • ICP 11 Market analysis
  • ICP 12 Reporting to supervisors and off-site
  • ICP 13 On-site inspection
  • ICP 14-16 Prevention and remedial action
  • What should we assess and control, and what
    processes and methods are effective tools

Risk-based supervisory cycle
  • Assemble all available and relevant information
  • Make a preliminary risk assessment (one or two
  • Test and refine the preliminary assessment
    (reporting, off- and on-site)
  • Develop a multi-year supervisory plan (3-5 years)
  • Implement the supervisory plan (weaknesses will
    be allayed or confirmed) diagnostic phase
  • Take remedial action to address weaknesses
  • Update risk assessment (at least once per year)
  • Revise supervisory plan if needed

Market Analysis (ICP 11)
  • Make use of available sources to monitor and
    analyse all factors that may have an impact on
    insurers and insurance markets
  • Individual insurers and insurance groups
  • Market and environment in which they operate
  • Quantitative and qualitative information
  • Assessment of financial data from another
    jurisdiction requires an understanding of the
    basis of reporting in that jurisdiction

Reporting (ICP 12)
  • Identify potential problems early
  • Current and prospective information
  • Reporting requirements should reflect
  • Supervisory needs (frequency, information)
  • Individual situation (additional information ad
  • Balance between need and burden
  • Distinction between public and supervisory use

Off-site monitoring (ICP 12)
  • Reporting (and market information) are the basis
    for off-site analysis (relevant to the result are
    accounting and consolidation techniques)
  • Financial conditions and performance
  • Solo and group-wide (subsidiaries)
  • Off-balance sheet and outsourced functions
  • Important changes (ad hoc)
  • Regulatory compliance
  • Timing and accuracy
  • Responsibility of senior management
  • Audit opinion
  • Assemble all information, make preliminary
    assessment of risks, or update

On-site inspection (ICP 13)
  • Verify information in regulatory returns
    periodically through on-site inspections
  • Conduct on-site inspection on full scale, or
    focused basis, investigating areas of specific
  • Discuss findings and any need for corrective
    action with the insurer, and obtain appropriate
    feedback from the insurer
  • Follow-up with the insurer to ensure that
    required actions have been taken
  • Extend on-site inspection to intermediaries or
    service providers in outsourcing agreements
  • Assemble all information , make preliminary
    assessment of risks, or update

Purpose of on-site inspections
  • Verify or capture reliable data and information
    to assess and analyse an insurers current and
    prospective solvency
  • Gain better understanding of a companys business
    and risk management practices
  • Obtain information and detect problems that
    cannot be easily obtained or detected through
    on-going monitoring
  • Identifying problems that the company ignore/hide
  • Opportunity to have a more personal relationship
    with managers (fitness and propriety)
  • Analyse the impact of specific regulations
  • Gather information for benchmarking
  • Convey supervisory objectives and expectations to
    the company

Risk areas covered by on-site analysis
  • Asset quality
  • Accounting and actuarial practices
  • Quality of underwriting (prudence of policy and
    effectiveness of implementation
  • Valuation of technical provisions
  • Strategic and operational direction
  • Reinsurance
  • Competence of management
  • Corporate governance (decision-making process
  • Internal controls (incl. IT and outsourcing)
  • Risk management

Preparation and planning of inspection
  • Identify insurers to be examined
  • List the insurers and prioritise according to if
    systemically important, vulnerable, etc.
  • Define the interval
  • Identify the purpose of the examination
  • Full scale (general)
  • Focused (vulnerabilities etc.)
  • Identify the risk areas to be examined based on
    the information received, required and processed
  • Check compliance with reporting and regulatory
  • Meet with other internal stakeholders.

Develop a multi-year supervisory plan
  • Establish minimum cycles of activities to ensure
    proper coverage (according to the risk
  • Example
  • Four year on-site inspection cycle for small and
    low risk companies - use off site monitoring to
    verify that companies are still small and low
  • One year on-site inspection cycle for large,
    systemically important, high risk companies.
  • Use supervisory judgement to establish and revise
    the cycles

Pre-visit process
  • Preparation established per risk area
  • Questions to be asked
  • Tests to be done
  • Documentation to be obtained
  • Pre-visit announcement
  • Letter indicating date, time, scope, persons to
    perform the on-site examination, and
    documentation needed before the visit

Staff and procedures
  • Skilled staff that can evaluate the information
    obtained (investigative and technical skills)
  • Established scope and procedures for on-site
  • Rules for an objective and uniform process
    irrespective of staff or companies
  • Guidance supplemented by personal judgements
  • Structured framework for decision making
  • Integrity personally and collectively (policy
    on ethics etc.)
  • Governance structure

Full scale investigation (risk and solvency)
  • Evaluation and analysis of
  • Management and internal control systems
  • Nature of the activities (type of business
  • Technical conduct of insurance business
  • Organisation and management of the insurer
  • Commercial policy, reinsurance cover and its
  • Relationship with external entities (outsourcing
    or other entities within a group)
  • Financial strength, notably technical provisions
    (adequate and sufficient valuation)
  • Compliance with corporate governance requirements

Full scale investigation (market conduct)
  • Checking and reviewing
  • Sufficiency and adequacy of the information given
    to consumers
  • Timing of payments
  • Frequency and nature of complaints and
  • Observance of the market conduct standards and
    consumer regulation

Access to non-regulated entities
  • Service providers in outsourcing agreements (can
    be regulated but supervised by other supervisor)
  • Cross-border and home/host supervisory issues
  • Access could be guaranteed
  • Make outsourcing an integral part of supervision
    (licensing condition, requirement related to
    outsourcing contract etc.)
  • Co-operation (MoU or multilateral agreement)

Post-visit process
  • Write report on findings and send to company for
  • Senior management should indicate appropriate
    action to be taken where relevant
  • Board notification if significant findings
  • Follow up and remedial action where necessary
  • Senior management should report back on action
    taken and outcome thereof
  • Update risk assessment
  • Review interval and priority (risk profile of

Risk-based approach pros and cons
  • Improved supervisory outcomes
  • More efficient use of scarce resources
  • Better risk management more efficient
  • Better risk bearing capacity - positive economic
  • Higher level of experience and skills
  • Difficulties in implementing
  • Subjective judgements
  • Less objectivity and predictability
  • Challenged judgements and difficulties to prove
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