Office of the Superintendent of Financial Institutions
The financial industry is exposed to a changing environment. In its efforts to maintain relevant and up-to-date capital adequacy requirement guidelines, OSFI has initiated a number of work streams to address, among other factors, the impact on Guideline A - Minimum Continuing Capital and Surplus Requirements for Life Insurance Companies (MCCSR) of changes in the industry risk profile, the risk measurement methodologies, professional standards (accounting and actuarial) and international developments.
For the MCCSR standard approach in general (excluding segregated fund guarantees), priority projects were to develop methodology for credit and market risk before dealing with insurance and other risks. Again, the significant uncertainty related to changes in International Financial Reporting Standards (IFRS) on the calculation of insurance liabilities was an important factor for this sequencing. Assuris and AMF are valuable partners in this process as members of the Standardized Approach Advisory Group (SAAG).
The development of a new standardized approach for determining the credit and market risk solvency buffer has also required participation from the industry, mainly through Quantitative Impact Studies (QIS). The purpose of these studies is to assist the regulators, both OSFI and AMF, to assess the appropriateness of proposed methodology, assumptions and other requirements.
The first QIS explored the impact on the MCCSR of changes to capitalization in respect of credit and market risks. The results on credit risk indicated that the methodology is generally satisfactory but will require refinement and further calibration prior to implementation. The methods tested for market risk were not satisfactory and required additional investigation, which necessitated a second QIS. OSFI and its SAAG partners would like to thank all companies who participated in the second QIS.
The attached QIS report was prepared by the SAAG and is intended to be a high level summary of the results and findings. The report concludes that work will continue in order to refine and calibrate the new methods. It has not been determined yet whether another QIS is required. It is likely that an integrated QIS for credit, market and insurance risk components will be performed to permit better calibration of the solvency buffers for all risks.
Although, as the report explains, more work is required on certain aspects of market risk, the work is nearing completion and some of the issues can only be resolved at a later stage. OSFI therefore intends to move ahead, in consultation with the SAAG, and begin its review of the methodology for determining requirements for insurance risk. Factors to be considered during the review of insurance risk requirements will include, among others, the impact of mortality improvement and of IFRS 4 Phase II.
Prospective changes to the MCCSR are expected to be consistent with the Total Asset Requirement (TAR) approach outlined in the Joint Committee of OSFI, AMF and Assuris paper Framework for a New Standard Approach to Setting Capital Requirements dated November 2008. The TAR approach requires that an insurer hold assets which are equal to or greater than its liabilities under extreme circumstances. When TAR is expressed as a solvency buffer over best-estimate obligations, the solvency buffer is designed to withstand risks at a high level of confidence. Although OSFI is proceeding with the TAR approach for both its standard and internal models capital regimes, it is clear that a measure of capital adequacy will remain an important component in the overall regulatory model. However, because unknown changes to IFRS are likely to significantly impact the way in which best-estimate liabilities are calculated, the path to implementation of MCCSR standard approach changes will require further definition as IFRS 4 Phase II is finalized. Subject to IFRS 4 Phase II continuing to be a foundation on which a solvency buffer can be added to the best-estimate insurance obligations, OSFI continues to expect that its standard approach capital regime for insurance obligations will build on accounting best-estimate insurance liabilities as we believe it is good practice to rely on the same financial statements as industry for regulatory reporting and capital determination. We hope the IFRS 4 Phase II standard will be compatible with OSFI’s capital framework and allow us to continue this practice. Our work will also consider making appropriate changes to insurance capital requirements to correspond to changes arising from Basel III.
OSFI remains committed to developing appropriate risk-based capital requirements and we appreciate the collaboration, time and support of the industry. Should you have any questions related to the future direction of our capital rules, please contact me at firstname.lastname@example.org or by telephone at 613-990-7797.