BoE says overhaul of insurance rules cannot be a ‘free lunch’ for sector

The Bank of England on Friday warned an overhaul of insurance regulation cannot be a “free lunch” for the industry, saying the changes must protect millions of policyholders.

The BoE’s Prudential Regulation Authority, which supervises insurers, is working with the government on changes to the Solvency II regulatory regime that Boris Johnson hopes will free up companies to invest billions of pounds in UK infrastructure.

Solvency II, which was introduced when the UK was part of the EU, stipulates how much capital companies should hold and where they can invest.

Tensions have been growing between Downing Street and the BoE over the reform of Solvency II because the prime minister believes regulators are being excessively cautious.

The PRA has also come under mounting pressure from industry to drop its push for changes to the so-called matching adjustment, which offers life insurers a capital boost if they invest in certain assets to back their long-term liabilities, mainly future payouts to pensioners.

The regulator wants to put the matching adjustment on what it sees as a more sustainable footing that better reflects the credit risks taken by insurers with their investments.

In a speech on Friday, PRA chief executive Sam Woods recognised the “strongly negative” industry reaction to this proposal, but said “the livelihoods of millions of pensioners depend on getting this right”.

The regulator is “clear that this is not a free lunch”, he said. “If changes simply loosen regulations which were overcooked by the EU, without tackling other areas where regulations are too weak, then we are putting policyholders at risk,” he added.

Johnson’s resignation as Conservative party leader on Thursday, and his plan to step down as prime minister in September, have raised questions about how quickly the Solvency II overhaul will be implemented.

He regards the changes to the regulatory regime as a crucial post-Brexit reform that can unleash an “investment big bang” by insurers in UK infrastructure.

The government is paving the way for reform of Solvency II through a financial services bill, and Rishi Sunak and John Glen were leading on this work until they resigned as chancellor and economic secretary.

The bill is still expected to proceed, and Woods said Glen had “got this work very, very far advanced”, with clauses about the Solvency II overhaul due to go into the legislation.

But a central question hangs over the reform: whether the government will effectively override the PRA’s concern about the matching adjustment in order to give insurers more wriggle room to shift money into UK infrastructure.

“We are hoping that we’ll be able to agree, but if [the government] do [form a different view], we live in a democracy . . . we’ll get on with whatever the settlement is,” said Woods.

His speech was an attempt to make clear the PRA’s reasoning for what Johnson and other politicians have perceived as an excessively cautious approach by regulators.

Woods said his thinking had evolved since a speech last year where he said he had not seen “pervasive evidence” that capital levels in the insurance industry were too low or too high.

He added some life insurers had viewed the PRA’s proposals for the matching adjustment as “sort of manufactured” to try to get the overall reform to a neutral position that neither tightened or loosened capital requirements. “That is completely wrong,” said Woods.