Analysts at Moody’s Investors Service provide insights into the Solvency II review, highlighting amendments intended to enhance solvency ratios and free up some capital.
These modifications to Solvency II were enacted by EU authorities in December 2023 and are anticipated to be implemented by 2026. Alongside a proposal of a framework to resolve insurer issues, known as the Insurance Recovery and Resolution Directive.
Moody’s emphasises, “One of the reform’s key impacts will be to make insurers’ solvency ratios more economic, or truly reflective of the risks they face.”
This objective will be achieved through changes to how capital charges related to interest rate risk are calculated.
Furthermore, the reform aims to mitigate the cyclical nature of the capital regime and curb regulators’ perceived excessive use of mechanisms that strengthen insurers’ solvency ratios.
Moreover, Moody’s anticipates these changes will free up a moderate amount of capital. However, due to the implementation delay until 2026 and potential economic shifts, coupled with insurers’ likely allocation of released capital to shareholders or other purposes, Moody’s predicts, “We therefore do not foresee any sustained increase in average solvency ratios.”
Analysts suggest that the anticipated positive impact on capital mainly stems from recent increases in interest rates. A return to low rates could have a negative impact on capital and insurer solvency.
The UK’s post-Brexit reforms of the Solvency II framework align with the EU’s review, albeit with some differences. This reform is already underway, with a significant modification effective from the end of 2023, involving a reduction in the risk margin, a crucial component of insurers’ total liabilities under Solvency II.
Additionally, the reform aims to expand the Solvency II matching adjustment, enabling insurers to more deeply discount long-term liabilities when matched with corresponding long-term assets.
Moody’s states, “We expect the changes to come into force by the end of 2024, and to free up some capital. We foresee some additional investment in illiquid real economy assets, but expect insurers’ capital to remain strong.”
