Insurance regulatory change in Asia Pacific: Gathering pace kpmg.com/cn

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1 FINANCIAL SERVICES Insurance regulatory change in Asia Pacific: Gathering pace kpmg.com/cn

2 2 Insurance regulatory change in Asia Pacific: Gathering pace As the insurance world converges on Seoul for the Annual Conference of the International Association of Insurance Supervisors (IAIS), this year s event is the most important yet for insurers in the Asia Pacific region. In this article, we explore three areas that are currently experiencing significant regulatory action prudential regulation, customer treatment and the debate over the extent of any systemic risk posed by the insurance industry. The region is diverse with both the products written and regulatory regimes often differing significantly by country. This means that pan-regional players will likely face a varying pace and extent of change across their operations. We believe that insurers should view regulatory change as more than just a compliance burden. In fact, in our experience, insurers who embrace change stand to gain competitive advantage. There will be challenges and opportunities for all. The impact of the recent global financial crisis and the economic challenges that continue to grip many parts of the world have highlighted the need for more effective corporate governance and risk management by all types of financial institutions. Insurance regulators appear unlikely to derive much comfort from the fact that most insurers weathered the global financial crisis in reasonable shape despite paying a heavy cost through historically low interest rates. Forewarned is forearmed and regulators want to arm themselves with better weapons against a potential next time. Regulatory reforms to address these shortcomings are under development. In some cases, such as the US Dodd Frank Act, development was triggered by the crisis, in others, such as the European Solvency II regime, development was already underway but the crisis has contributed to a more challenging approach. Earlier this year we released the first edition of Evolving Insurance Regulation 1, including a supplement which focused on the Asia Pacific region 2 ; this provided an in-depth look at the various regulatory reform initiatives affecting the insurance sector. As the global insurance community converges on Seoul and looks to the future of the regulatory landscape, perhaps there is no more critical time for the industry including insurers operating in Asia Pacific to contribute to the discussion and debate. Insurance regulatory change across the Asia Pacific region is gathering pace

3 Insurance regulatory change in Asia Pacific: Gathering pace 3 We believe that insurers should view regulatory change as more than just a compliance burden

4 4 Insurance regulatory change in Asia Pacific: Gathering pace Insurers in the Asia Pacific region are bearing between $4bn to $7bn additional cost annually Prudential regulation: the impact of the new IAIS standards The IAIS will introduce a new suite of Insurance Core Principles (ICPs) from October 2011, which will have a significant impact on the form and extent of prudential regulation globally and in many Asia Pacific insurance markets. We welcome these initiatives, particularly the moves by the IAIS to introduce greater regulatory convergence and consistency especially for internationally active insurance groups, through the ComFrame project. We estimate that the additional annual cost of regulation to the global insurance sector, from having bespoke requirements in each jurisdiction, may be in the region of USD 15 billion to USD 25 billion, of which insurers in the Asia Pacific region are bearing between USD 4 billion to USD 7 billion of additional cost annually. The ICPs essentially require insurance supervisory regimes world-wide to establish risk-based solvency requirements. These standards reflect a total economic balance sheet approach, which addresses all reasonably foreseeable and relevant material risks. The IAIS capital adequacy standard includes general requirements on the use of internal models to determine regulatory capital requirements (where this is allowed by the supervisor) in our view, a major step forward in the supervisory arena. Of all the new IAIS standards, we consider the ICP on Enterprise Risk Management (ERM) to be the most significant. The ICP requires supervisors to seek high standards of risk management and governance from insurers and, critically, supervisors are being encouraged to challenge the insurers they regulate on risk management issues. In particular, the IAIS ERM standard requires an Own Risk and Solvency Assessment (ORSA), under which an insurer undertakes its own forward looking self assessment of its risks, its capital requirements and the adequacy of its capital resources. We expect insurers will need to substantially upgrade their ERM and capital management across the region over the next few years. Even though the ICPs currently take the form of high-level principles-based requirements, they nonetheless require all supervisors to enact the requirements into their local supervisory frameworks. If they do not, they risk receiving an adverse finding from the IMF/World Bank who conduct the Financial Sector Assessment Programme (FSAP) reviews. Nevertheless, there are some who argue that the ICPs do not go far enough - they do not, for example, require consistent calibration of capital requirements between countries. However, the ICPs are undoubtedly a step in the right direction. Customer treatment: changing conduct of business It is not only in prudential regulation that change is occurring. In the EU and UK markets, for example, substantial changes are being made to the conduct of business requirements and the fair treatment of customers. In the UK, significant changes were announced in 2010 that, amongst other things, result in the establishment of the Financial Conduct Authority (FCA) that will regulate the conduct of every authorised financial firm providing financial services to consumers. Models of consumer protection vary considerably in Asia Pacific, but generally have not yet embraced the principles-based customercentricity seen in parts of the EU and UK. For example, the UK FSA s Retail Distribution Review (RDR), due for implementation in 2013, has objectives including improving the clarity with which regulated firms describe their services to consumers, the transparency of financial advisor remuneration, and increasing the professional standards of advisers. In Asia, many countries still focus on achieving customer protection through regulatory pre-approval of product designs and pricing. Current areas of regulatory focus include increasingly

5 Insurance regulatory change in Asia Pacific: Gathering pace 5 more stringent controls over data privacy impacting direct marketing and cross-selling, controls over multi-ties and who may sell insurance in bank branches and increased disclosures in respect of investment linked products. But more regulations are not necessarily better regulations and we note that restrictions on multi-tying can disadvantage customers by restricting choice. Recovery and resolution plans for insurers: the need for a broader debate Following the financial crisis, the G20 tasked the Financial Stability Board (FSB), among other things, with overseeing steps to promote the financial soundness of systemically important financial institutions (SIFIs), including the establishment of a regulatory framework for SIFIs, though there appears to be little consensus on what constitutes systemic risk 3. While much of the recent attention has focused on banks, insurers are also coming into focus in the systemic risk debate, posing the question: are insurers systemically important, and if an insurer is considered to be systemically important, what are the consequences? The FSB has made it clear that it expects some insurers to be designated as SIFIs and so required, like major banks, to prepare resolution plans (much of the detail on resolution planning emerging from the FSB is clearly applicable to insurers) and to be subject to enhanced supervision. The latest thinking appears to be that the requirement for greater loss absorbency, which will apply to SIFI banks, may not be applied to SIFI insurance companies. Insurance is certainly not isolated from other sectors, nor immune from risk management shortcomings. Insurers argue that they mitigate rather than amplify risk and size and scale is a source of stability, rather than a threat, but it is clear that this argument is not entirely accepted. Our recent publication 4 delves deeper into this debate and discusses the potential impact on insurers and insurance groups and their customers. We believe the voice of the customer deserves greater airtime in this debate. It is, after all, taxpayers who bear the cost of bail out and customers, who are generally taxpayers, who bear the costs of increased regulation. There is limited time to contribute to shape policy in this area. 1 Evolving Insurance Regulation: On the move..., KPMG International, March Evolving Insurance Regulation: On the move Asia Pacific Supplement, KPMG International, March In a Report to the G-20 Finance Ministers and Central Bank Governors prepared by Staff of the International Monetary Fund and the Bank for International Settlements, and the Secretariat of the FSB, October 2009, a systemic event is defined as the disruption to the flow of financial services that is (i) caused by an impairment of all or parts of the financial system; and (ii) has the potential to have serious negative consequences for the real economy 4 Recovery and Resolution Plans for Insurers: The need for a broader debate, KPMG International, August 2011 We believe the voice of the customer deserves more airtime

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7 Insurance regulatory change in Asia Pacific: Gathering pace 7 How we can help KPMG has dedicated teams of insurance and risk management professionals, with experience in insurance markets across Asia, Europe, North America and beyond. KPMG s global network of member firms allows us to access first-hand knowledge and experience from the implementation of Solvency II and other emerging regulations. KPMG offers a range of services to help you prepare for, implement and manage change. These range from a health check of your readiness for new requirements, a detailed gap analysis with an action plan to bridge any gaps identified, tailored training for boards and management and detailed implementation assistance. If you would like to discuss any aspect of how regulatory change will impact your business, please contact any of your usual contacts at KPMG.

8 Contact us Hong Kong Simon Topping Principal Regulatory Centre of Excellence, ASPAC region Tel: Simon Donowho Tel: Mary Trussell in charge Insurance Advisory Services Tel: Clarice Yen Tel: Matthew Lawrence Principal Tel: Douglas Lecocq Actuarial Tel: Kelvin Yu Principal Actuarial Tel: Beijing Christine Song Tel: +86 (10) Walkman Lee Tel: +86 (10) Shanghai Edwina Li Tel: +86 (21) Guangzhou Jasmine Lee Tel: +86 (20) Shenzhen Ivan Li Tel: +86 (755) Martin Noble Senior Manager Regulatory Centre of Excellence, ASPAC region Tel: kpmg.com/cn The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavour to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act upon such information without appropriate professional advice after a thorough examination of the particular situation KPMG, a Hong Kong partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative ( KPMG International ), a Swiss entity. All rights reserved. Printed in Hong Kong. The KPMG name, logo and cutting through complexity are registered trademarks or trademarks of KPMG International. Publication number: HK-FS Publication date: September 2011