Transcript Corporate Governance and Internal Control

Early-warning Systems and Progressive
Intervention Levels
Regional Seminar on Risk-based Supervisory Practices and
Regulatory Capital
San José, Costa Rica, 6-8 September 2011
Gunilla Löfvendahl
Senior Financial Sector Specialist
Risks and effects
External risks (inherent)
Internal risks
(management
and control)
Inadequate
or failed
internal
processes
people or
systems
Inappropriate
risk decisions
Financial
outcome
Policyholder
harm
Risk appetite decisions
Incorrect
evaluation
of financial
outcomes
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Risk assessment table to classify/prioritise
inherent risks
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Solvency control levels
 Solvency control levels are triggers for different degrees of
supervisory intervention
 Intervention should be at a sufficiently early stage so that
there is realistic prospect for the situation to be rectified in
a timely manner
 Criteria used to set levels should be transparent
 Should be at least two control levels:
– Prescribed capital level (PCR): intervention on other
grounds than capital adequacy
– Minimum capital level (MCR): strongest supervisory
action if corrective action is not taken promptly
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Setting the level of PCR and MCR
 PCR:
– Insurer can absorb losses from adverse events over a
defined period
– Technical provisions remain covered at the end of the period
– Need to consider whether insurer can access additional
capital/other risk mitigation tools
– Going-concern basis
 MCR
– Ultimate safety net for the protection of policyholders
– Different from accounting concept of insolvency (assets >
liabilities)
– Lower bound for PCR (can be calculated differently)
– Gone-concern/winding-up basis
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Quality of capital resources
 Loss absorbency under going-concern (availability and
permanency) – main function
 Loss absorbency under winding-up (subordination and
priority)
 The quality can be regulated in different ways
– categorise into tiers (quality classes)
– rank capital elements
 The quality of corresponding assets is also important and
can be regulated in different ways
– investment incentives through risk-weighting
– catalogue of admissible asset (risk-based)
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Typical early-warning indicators
 Low solvency margin relative to firm’s risks
 Rapid growth, declining profitability
 High expenses, low profitability
 Sudden increase in technical reserves
 Marked decrease in technical reserves
 Significant divergence from budget and business plans
 Concentrated investments, particularly in related entities
 Timing of payments, in particular claims
 Consumer or intermediary complaints
 Large, irrational or inconsistent reinsurance arrangements
 Crude underwriting strategy (pricing and risk selection)
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Indicators (continued)
 Excessive bonus or unusual remuneration and incentives
 Change of business strategy
 New sources and classes of business
 Changes to or delays in implementing original business
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plan
Vulnerability to legal or fiscal changes
Mergers, acquisitions or other significant transactions that
may put on pressure
Poor quality information or delays in producing the
information
Failure to implement supervisory advice or requirements
Non-cooperation with supervisor
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Preventive and corrective measures
ICP 14 (new 10)
 Have legal and operational capacity to bring
about timely action
 Make use of adequate preventive and corrective
instruments that are suitable and necessary to
achieve the objectives of insurance supervision
 Have a progressive scale of actions and
remedial measures
 Have the capacity and standing to communicate
with companies and require information
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Preventive supervisory tools
 Licensing procedure
 Continual fit and proper requirements
 Requirements of sound corporate governance,
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internal control and risk management
Periodic reporting requirements
Disclosure/transparency
Business plan and strategy for new business
Off- and on-site supervision
Informal contacts with management
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Corrective supervisory measures
 Require compliance with rules and rectification of
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breaches
Require correction of reporting errors
Impose plan of redress (acceptable steps and
timetable)
Prescribe capital injection
Prescribe additional or other reinsurance
Prescribe portfolio transfer or merger
Require change of management
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Enforcement or sanctions
ICP 15 (new 11)
Formal directions to take (or desist) actions :
 Failure to comply should have serious consequences
 Possibility to combine sanctions with fines against
individuals and insurers
 Sanctions are powerful supervisory tools that should be
used in a fair and equal manner
 It is not sufficient for supervisors to have powers delegated
under legislation – powerful tools are only powerful if used
 Determine that the insurer is complying with the measures
once action has been taken or measures have been
imposed
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Enforcement or sanction measures
 Restrict business activities
– Stop the writing of new business
– Withhold approval for new activities or acquisitions
 Direct the company to stop unsound practices
 Direct a company to stop unlicensed business
 Remove directors and managers - bar individuals from acting in
responsible capacities in the future
 Require capital levels to be increased
– Restrict disposal of insurer’s assets
– Restrict/suspend dividend or other payments to shareholders
– Compulsory portfolio transfer or conservator ship
 Revoke the licence – require the company to wind-up
 Combine with fines
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Winding-up and exit from the market
ICP 16 (new 12)
 Determine when it is no longer permissible to continue
business
 Lay down procedure for dealing with winding-up and
insolvency (define insolvency)
 Protect the rights and entitlements of
policyholders/beneficiaries in the event of insolvency
– Protection/guarantee fund
– Preferential rights
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Appointing an administrator/liquidator
 Take over the role and duties of the board and senior
management
 Before and/or after a winding-up
– Before: take over the control in order to protect the
rights of the policyholders (usually no new business but
still supervised)
– After: Protect the assets to satisfy the interests of all
stakeholders (court process with little involvement of
the supervisor)
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Policyholder protection schemes
 Pool of money (pre- or post-funding by the industry) to be
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used to meet the obligations of a failed company
(predefined classes or lines of business)
Non-life: claimants / Life: claimants and policyholders
Payment during winding-up or/and after (whole or
remaining part of the claim
Moral hazard risk
– Lax supervisory treatment
– Impudent industry behaviour
– Less consumer due diligence
Supervisory decisions and enforcement actions should be
taken irrespective of protection scheme
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Discussion examples
 Information sources (what, when and where)
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Supervisory actions
– Insufficient technical provisions
– Low solvency margin
– Risky investments (including risk-conscious)
– Unsound market conduct and mis-selling
– Other
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