European lawmakers have agreed on a series of compromises to reform Solvency II, in a move aiming to free up capital for the real economy and green investments while rewriting sustainability rules, looking at the potential damages for the environment and society, and climate risks.

Under the new rules, the European Insurance and Occupational Pensions Authority (EIOPA), consulting with the European Systemic Risk Board (ESRB), will address sustainable risks by evaluating whether it makes sense a “dedicated prudential treatment” of exposure “to assets or activities” linked to environmental or social objectives, according to the revised final draft seen by IPE.

It will also assess the impact of the prudential treatment of exposures that harm those goals, including “fossil fuel related assets”, according to the final draft.

EIOPA will also be responsible for evaluating how insurance and reinsurance undertakings assess their material exposure to risk related to biodiversity, and actions to make sure that insurance and reinsurance undertakings take those risks into account.

Capital requirements should not hinder sustainable investments but reflect the full risk of investments in environmentally harmful activities, it added.

Insurance companies should draw up plans to address the risks caused by the transition to a climate neutral economy, and how to adjust to a new regulatory environment, it continued.

“However, it is very unfortunate that we are not yet introducing the so-called ‘one-for-one rule’ for insurers. According to this rule, insurance companies must fully cover the risks of every euro invested in fossil fuels with one euro of own capital,” said Henrike Hahn, member of the German Green party and also a member of the European Parliament (MEP).

She added: “If insurers themselves make the decision to rely on fossil fuel investments in times of climate change, it is inexplicable why European taxpayers should provide a blanket backing for this.”

Insurance companies will have to consider two scenarios for climate change: one where global temperature increases remain below 2°C, and the other where temperatures are significantly higher than 2°C.

Close tally on review

The European Parliament’s position on the review of Solvency II received 55 votes in favour, three against and one abstained in the vote held by the Committee on Economic and Monetary Affairs (ECON) last week.

Fresh negotiations on the draft text between the Council of the European Union and the European Commission is set to start in September.

Rapporteur Markus Ferber, MEP for the European People’s Party (EPP) and the German Christian Social Union (CSU), said: “If you want the Green Deal to succeed, you need private investments to do so. The Solvency II review allows insurance undertakings to play their part without putting policyholders at risk.”

For Hahn, the European Parliament’s position on Solvency II “bears a clear, green handwriting” by requiring for example insurance companies to draw up and publish transition plans, addressing sustainability and transition risks with regard to their business model and strategy”.

“We have come one step closer towards ensuring that insurance companies finally have to address climate risks. As long-term investors and risk managers, insurers are crucial to a successful green transformation of our economy,” she said.

A series of updates, yet to be consolidated in one text, IPE understands, were reached on matters including cross-border activities, macroprudential supervision, and proportionality.

On macroprudential supervision, insures would, under the new rules, update liquidity risk management plans, and liquidity risk indicators, giving supervisory authorities the power to order insurers to “restrict or suspend” dividends, share buy-backs or bonuses in periods of turmoil for the sector, according to the final draft text.

EIOPA would draft regulatory technical standards to further specify the content, and the frequency of updates of liquidity risk management plans.

The regulator would also draw regulatory technical standards on the methodology to classify insurance and reinsurance as low-risk profile undertakings, which, according to the draft text, are described as not having significant cross border activities.

Additionally, the draft text pointed to long-term equity investments and solvency capital requirements to drive long-term allocations of institutional investors.

“Due to their long-time horizons, insurance companies make for perfect long-term investors. The Solvency II review enables them to do make more long-term investments, which will ultimately benefit policyholders,” Ferber said.

According to the Greens, instead, the new framework of long-term guarantees and equities, which define the amount of own capital insurers have to hold in order to meet their customers’ claims in the future, will make the insurance sector more unstable in the future.

“The decline in capital requirements is particularly dangerous at times of heightened financial stability risks, putting policyholders’ and taxpayers’ money at risk,” Hahn said.

Moreover, large insurance companies can continue to use so-called internal models to calculate their capital requirements, which often leads to significantly lower requirements, according to the Greens.

Watered down proposals

The consessions adopted by the European Parliament’s Committee of Economic and Monetary Affair have disappointed Insurance Europe, the European insurance and reinsurance federation.

“It is disappointing that some of the original ambitious proposals have been watered down. This is a missed opportunity to allow the insurance industry to deliver even more for consumers and invest even more in Europe. Private investment is vital for Europe to meet its green and digital transformation goals,” said deputy director general Olav Jones.

Insurance Europe is urging the Council of the European Union, the European Commission and the EU Parliament to focus on boosting long-term capital investments for the economy in the upcoming negotiations, supporting less capital requirements for companies.

The German insurance association, GDV, on the other hand, said the European Parliament’s proposals to review Solvency II were balanced.

“The changes to the capital requirements better reflect the risk of negative interest rates, but also give insurers scope for long-term investments, for example in the [efforts] to transform our economy,” said managing director Jörg Asmussen.

The rules on long-term interest rates, which insurers use to assess their obligations, are more reasonable in the text put forward by the European Parliament paper than in the EU Commission’s plan, according to GDV.

However, the German association sees room for improvement in giving relief for smaller insurers on reporting obligations.

“It is right to automatically apply proportionality in the future, even if we would like more smaller insurers to be covered by these proportionality rules,” Asmussen said.

The Italian Association of Insurance Companies, ANIA, considers the vote on Solvency II latest review a step forward.

Maria Bianca Farina, ANIA’s president, said the European Parliament’s position “aims to maintain high levels of protection for policyholders and, at the same time, could enable the [insurance] industry to increase its contribution to funding the real economy”.

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