In a letter to the Lord Chancellor, the International Underwriting Association (IUA) has proposed reforms to the UK discount rate, which was recently cut to -0.75% from 2.5%.
The association has proposed the establishment of new legislation to enable the development of new methodology for how UK courts determine personal injury settlements.
The discount rate is used to determine lump sum compensation payments and the IUA has said it’s “essential” the UK discount rate’s link to index-linked government bonds in the calculation methodology is removed.
Furthermore, the IUA has proposed the introduction of review periods, which the association says enables regular and more gradual changes to the calculation to avoid unexpected, steep, and potentially costly alterations.
Insurers and reinsurers had been preparing for a cut to the discount rate, but such a steep reduction to -0.75% took the majority of the marketplace by surprise. In response, a number of re/insurers announced an expected impact from the rate change, including AXIS, XL Group, Novae, Markel, and others.
Dave Matcham, Chief Executive Officer (CEO) of the IUA, said; “It is clear that the process to review and amend the discount rate is flawed. Furthermore, the assumptions used to set the rate are completely out of step with current investment practices. Removing the relationship to Index Linked Government Securities in the calculation methodology is essential.
“It is encouraging that HM Treasury is working urgently on a consultation to review this process and the sooner changes are made, the better for the efficient operation of an insurance marketplace that provides security for all policyholders.
“The effect of the recent, unprecedented rate change was immediate and we have already seen sizeable increases in premium rates. Companies currently have little option, but to set their reserves according to the new rate and this could lead to a substantial reduction in reinsurance capacity.”
The IUA proposal comes after the association discussed the rate change with senior casualty insurance and reinsurance underwriters.
The IUA reveals that during 2015 its member firms recorded total premium income of £21.6 billion, of which roughly 54% comes from wholesale and commercial UK customers, with at least £4 billion of this coming from business directly impacted by the calculation of the UK discount rate.