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22nd July 2012

IAIS releases paper on Reinsurance and Financial Stability

The International Association of Insurance Supervisors (IAIS) has released a policy paper entitled Reinsurance and Financial Stability. A sequel to the 2011 policy paper Insurance and Financial Stability, today’s paper addresses reinsurance-specific concerns and evaluates the reinsurance marketplace in examining the relationship between reinsurance and financial stability and more particularly whether traditional reinsurance-related activities pose systemic risk.
“Similar to primary insurance, traditional reinsurance is unlikely to cause, or amplify, systemic risk,” said Peter Braumüller, chair of the IAIS Executive Committee. “Systemic risk may exist, however, in non-reinsurance activities undertaken by certain entities, and the evolving nature of alternative risk transfer products–as well as their affinity to the financial markets in particular–make it prudent to call for continued monitoring of the reinsurance sector and strengthened macroprudential surveillance on national and global levels.”
Non-reinsurance activities, such as banking activities (e.g. providing credit), credit default swaps (CDS), collateralized debt obligations (CDO), and some forms of alternative risk transfer (ART) entail considerable systemic potential. The financial crisis has shown that, for example, CDS and CDO underwriting without appropriate provisioning carries a considerable potential for systemic risk. Supervisors must be mindful that in recent years non-insurance entities, and in particular entities set up by investment banks, have started to offer longevity and pension services with risk transformation and risk transfer features similar to products offered by non-life and life insurers. The IAIS is currently developing a methodology to determine whether an entity engaged in non-(re)insurance activities could be a systematically important institution.
Reinsurance and Financial Stability addresses reinsurance-specific concerns relating to market concentration rates, risks arising from accumulations and high value risks, and issues associated with ART, which include activities such as the underwriting of CDS products. It concludes that traditional reinsurance is unlikely to cause, or amplify, systemic risk, but that the case may prove to be different for non-reinsurance activities. It also finds that while reinsurance establishes intra-sector connectivity, the mainly hierarchical structure of the (re)insurance market dampens any propagation of shocks.
Reinsurance and Financial Stability can be found at the IAIS website ( www.iaisweb.org)as can Insurance and Financial Stability.