The UK insurance industry is poised for a shake-up that is likely to free up tens of billions in investment for government projects to build greener infrastructure and promote Boris Johnson’s “leveling” policy.
Westminster wants to remove numerous regulatory hurdles, a legacy of EU membership, that have so far deterred pension funds and insurers from funneling as much money as they like into net-zero modernization programs. His planned changes would allow more investment capital to move from bonds to wind farms, for example. Critics of the current rules argue that they make it easier for insurers to invest in coal mining than in renewable energy.
Eager to demonstrate a benefit from Brexit, the government has called for a “big bang of investment” and is targeting the considerable coffers of the insurance industry. Having discussed the issue for the past year, ministers are believed to be close to agreeing reforms with sector regulators, with a focus on maintaining safeguards for insurers and policyholders.
But this review lags behind a similar initiative already underway in Brussels to unlock €90bn (£76bn) in EU insurance assets. The European Commission has adopted a comprehensive review of its insurance rules, known as Solvency II, so that the bloc’s insurers can increase long-term investments in Europe’s recovery from the Covid crisis and the impacts of Russia’s war. against Ukraine.
EU insurers will be encouraged to increase long-term capital investment to boost member states’ economies, but at the same time the industry will be better scrutinized, according to the commission.
Westminster is keen to go ahead with its plans, because the UK would be at a competitive disadvantage if Brussels enacted the proposed reforms first.
In February, the Treasury’s economic secretary, John Glen, revealed the government’s plan to shake off some of the shackles of Solvency II, which the UK had embraced when it was an EU member state. He outlined the proposed changes in a speech at the Association of British Insurers (ABI) annual dinner.
Glen said the review would create a more personalized and dynamic regime, unlocking billions for infrastructure investment. But he stressed that safeguarding the financial stability of insurers and protecting policyholders would remain a top priority.
British insurers have been subject to Solvency II since it was introduced in 2016 to harmonize regulation across the EU. Glen promised that this “EU-focused, rules-based, inflexible and onerous” body of regulation would be scaled back and adjusted to better suit the nation’s public investment needs.
“The EU regulation no longer works for us. The government is determined to fix that by tailoring prudential regulation of insurers to our unique circumstances,” he said. “We have a genuine opportunity to sustain and grow an innovative and vibrant insurance industry, while protecting policyholders and making it easier for insurance companies to use long-term capital to unlock growth.”
The package of reforms has been developed by the Treasury together with the Prudential Regulation Authority (PRA) of the Bank of England, which has emphasized the need to maintain effective measures to ensure that companies and their policyholders are not exposed to more risks as a result. . of the changes
In December 2021, Bank Governor Andrew Bailey emphasized that the PRA’s primary focus would be to safeguard its interests. Addressing the Institute and College of Actuaries at the time, he added: “Solvency II reform is tricky, because the world is moving forward and because it has never been well adapted to some aspects of the UK market.”
The planned reforms include a substantial reduction in the risk margin, including a cut of between 60% and 70% for long-term life insurers and the more sensitive treatment of credit risk in the so-called marriage adjustment. The risk margin calculates the reserves that life insurance companies must have and the corresponding adjustment protects against price volatility, encouraging investors to support safe assets for the long term.
Risk margin and matchmaking are two key areas of scrutiny, according to Bailey.
“Public policy objectives such as security and soundness and the protection of policyholders are the basis of prudential insurance regulation,” he said in his speech. “But let’s not assume that the answers to the question of how much we should have are obvious. That said, I cannot stress enough that we must find well considered answers to the question of ‘how much protection?’ to allow prudential regulation to do its job effectively.”
As well as giving insurers more flexibility to invest in long-term assets, the reform package includes reductions in their administrative burden and reporting obligations.
Charlotte Clark, head of regulation at ABI, believes reforms to Solvency II are “vital to ensure we have a post-Brexit regulatory regime that is fit for purpose for the UK and not overly restrictive. It should allow more investment in green infrastructure and the leveling agenda. Analysis shows that £95bn could be freed up if sensible changes are made to the match setting and risk margin while maintaining high levels of protection for policyholders.”
The government is due to publish a full consultation document in April. This should present more detailed proposals with supporting analysis.
The Pensions Insurance Corporation (PIC), which has more than £47bn in investments, agrees that the Solvency II framework for insurance companies has so far hampered UK investment in low-cost projects. carbon.
In December 2021, the PIC published an investigative report titled investment unleashed, which argued that regulatory failures had incentivized life insurance companies to invest primarily in large, well-funded companies. This had diverted investment into mature technologies and sectors, instead of helping the government achieve its goals of building greener infrastructure and leveling the economy.
“The government’s net zero and catch-up ambitions require significant investment if they are to be achieved. The government itself simply cannot provide this funding,” the report states.
PIC Executive Director Tracy Blackwell sees the planned Solvency II reforms as an opportunity to rewrite the script. “We have a once-in-a-lifetime opportunity to funnel new investment into communities across the UK, build high-quality housing, decarbonise our economy, create jobs and level up,” she says.
Clark agrees, noting that the ABI “has long been calling for meaningful reform of Solvency II. The changes being discussed will not diminish the high regulatory standards that are rightly imposed on insurers and providers of long-term savings. These will retain their ability to withstand a one-in-200-year impact.”
He continues: “Our sector recognizes the crucial role it has to play in the fight against climate change. Calling for regulatory reforms to enable greater investment in renewable energy, as well as other infrastructure needed to help the UK transition to net-zero emissions, is just one aspect of many actions we are taking.”