That the shadowy world of insurance regulation has made an appearance in the race for the next British Prime Minister may come as a surprise. Yet as the contest increasingly revolves around tax cuts versus public spending as a way to solve Britain’s cost of living crisis, the promise to free tens of billions of pounds from the shackles Brussels bureaucracy may be too alluring for the next leader of the ruling conservative party: almost the proverbial magic tree of money. Rishi Sunak, the former chancellor who championed an overhaul of EU insurance rules called Solvency II, is now a favorite to be the next prime minister. Rival Tom Tugendhat this week described the Solvency II reform as one of the biggest potential benefits of Brexit.
The battle for this post-Brexit regulatory niche is predictable. A well-organized industry has been pushing to get rid of what it sees as overly restrictive EU rules, so it can deploy more capital as it sees fit. Pledges by insurers to invest in projects such as levelling, infrastructure and green assets have been music to the ears of Boris Johnson’s government – which has duly launched a consultation on the reform, which is running until the end of July – and are likely to call on his successor. Meanwhile, Bank of England supervisors are keen not to erode policyholder protections for the benefit of shareholders. Cue government briefings that the BoE is less of a watchdog and more of a ‘dog in the manger’.
Everyone agrees that Solvency II must change, even Brussels. The EU’s own reform efforts give insurers an opportunity to frame this as a race: the UK risks ending up with clumsy rules that the EU will have abandoned. A Brexit penalty instead of a dividend.
After Brexit, Britain is free to write its own rules to better regulate a heavy local market in life insurers specializing in annuities. The elements of Solvency II disproportionately penalize this group. The current battleground is part of the so-called “matching adjustment” regime, which actually determines which assets insurers can use to secure their long-term liabilities.
The BoE’s Prudential Regulator, which oversees insurers, said it was willing to drastically reduce bureaucracy and some Solvency II capital requirements – up to £90bn that could be freed up for lending. investment – but only if the corresponding adjustment is also recalibrated. Sam Woods, the head of the PRA, said on Friday the regulator was concerned the calculation of the EU’s equalizing adjustment was too focused on the historical performance of corporate and government bonds. This may not fully capture the risks inherent in newer, more diversified portfolios – where infrastructure, for example, plays a larger role. Insurers now fear that the windfall freed up by the removal of one Solvency II requirement could be erased by a strict PRA approach around another.
The greatest risk is that the government ignores technical specialists on the altar of political expediency. The effectiveness of the PRA is already potentially compromised by the Government’s proposals to ensure the UK’s competitiveness, as well as its existing statutory objectives such as protecting policyholders and ensuring the soundness of businesses. Promoting the UK is the job of government and lobby groups, not watchdogs.
At stake is the life savings of retirees and policyholders, which, if improperly invested, could lead to unwelcome choices between policyholder haircuts and taxpayer bailouts that a government may have to make long after the one this, whoever it is, has finished. Avoiding such dilemmas is one of the reasons Britain set up independent regulators in the first place; that the PRA can be prudent in saving for life, it should be. Prudent in name, prudent in nature.