The Solvency II framework consists of three pillars, each covering a different aspect of the economic risks that insurers face. At the heart of Pillar 1 is the requirement for insurers to understand the nature of their risk exposure and to hold sufficient regulatory capital to ensure that, with a 99.5% probability over a one-year period (i.e. a one in 200 year occurrence of an event of insolvency), they are adequately protected against adverse events or scenarios

. Solvency II identifies two levels of capital requirement: the minimum capital requirement (MCR) and the solvency capital requirement (SCR).

Under Solvency II these requirements will be compared to the actual available capital, which effectively corresponds to the available economic capital. Pillar 2 deals with the qualitative elements and focuses on companies’ internal control and risk management processes, as well as on the supervision process. This pillar requires insurers to demonstrate that they have appropriate amounts of capital for all the risks they face.

Supervisors may require additional capital to be held if they feel that the level of capital determined is not sufficient for the specific organisation. Pillar 3 deals with market transparency and discipline in the insurance industry. It aims to improve both transparency and discipline, and provide better insight into insurance companies’ actual risk and return profiles.

This pillar is designed to harmonise reporting to supervisors, and goes beyond the notion of financial reporting rules by including various different types of information needed by supervisors and information not normally available in the public domain.

Current status of Solvency II at insurers Many leading insurers, including practically all the CRO Forum members,1 are currently in the process of establishing their Solvency II change programmes. As part of this process, many of them took part in the fourth Quantitative Impact Study (QIS 4), which was held this summer. QIS 4 can be regarded as the most recent try-out of Solvency II for insurers, and its results can be used as input for the final version of the Solvency II Directive and implementation measures.

The CRO Forum members are also sharing the QIS 4 results so as to develop industry best practices for Solvency II. The fact that both small and large companies seem to be taking QIS 4 so seriously indicates that they are increasingly aware of the significance of Solvency II, but even more importantly that they are increasingly interested in financial risk management in general. Solvency II can be seen as an element of enterprise risk management.

Insurers’ interest in fi nancial risk management in a broader sense is also being driven by actions of national governments and supervisory authorities in mature European insurance markets, where elements of Solvency II and fi nancial risk management have already been incorporated into existing regulations. Realistic balance sheets, the explicit valuation of options and guarantees and risk-based solvency requirements, for example, are becoming more and more part of local regulations (e.g. MA risk in Germany, the Wft legislation in the Netherlands, ICA in the UK, the Swiss Solvency Test and the Individual Solvency Requirement (ISR) in Denmark).