PwC US risk & capital management leader Henry Essert and PwC global insurance regulatory director Ed Barron recently sat down to discuss the proposed International Capital Standards (ICS) for insurers. They addressed at length what the ICS is and what it could mean to insurers. The following pages contain their thoughts on the standard, as well as some background information on capital management and related issues in the insurance industry.

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10 questions
about the
International
Capital Standard

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Table of contents
10 questions about the International Capital Standard .................................................................................................... 1
Background: Capital management and related issues in the insurance industry............................................................4

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10 questions about the
International Capital Standard
PwC US risk & capital management leader Henry Essert and PwC global insurance regulatory director Ed Barron
recently sat down to discuss the proposed International Capital Standards (ICS) for insurers. They addressed at
length what the ICS is and what it could mean to insurers. The following pages contain their thoughts on the
standard, as well as some background information on capital management and related issues in the
insurance industry.
1. Why have an ICS?
The ICS is about creating a consistent capital measure across globally active insurers and is being promoted as a
solution for group wide supervisors to better manage capital allocation around an international business.
Insurers generally have developed their own capital standards, and what they have developed applies globally
across groups. However, regulators need a capital measure to oversee insurers, and most of the regulatory
measures are at the legal entity level. During the last financial crisis, problems arose when parts of a troubled
financial institution fell through a regulatory crack.
That said, even before that, many insurance regulators were concerned that they did not have a good picture of
companies as a whole because capital is measured differently in different jurisdictions. This makes it hard for a
supervisory college to identify where there may be shortfalls in capital in a particular entity in one or
more jurisdictions.
2. Who wants it?
Primarily regulators and, by extension, policymakers, and politicians/elected representatives. At the end of the
2008 crisis, many of them were concerned about avoiding or better handling any subsequent crises. This prompted
politicians (via the Financial Stability Board) to direct regulators to improve the regulatory system for all of
financial services, particularly as it relates to capital standards. And, while the banking industry has received the
lion’s share of attention, the insurance industry is part of a wider move for change in financial services overall; in
fact, the FSB is now firmly focusing on the sector.
However, many elected officials in the US are now concerned about adopting a "foreign" calculation that differs
from what regulators in their jurisdiction have used. In order to run their business and generate a good return on
capital, multinational and other groups need to have some way to measure themselves in terms of how much
capital they need in total on a consistent basis. They have devised their own ways of doing this calculation using a
combination of current regulatory calculations and their own capital models (which are sometimes called economic
capital models). They tend to do these calculations on their own without outside prompting, and have concerns that
the ICS calculation could conflict with what they are already doing. Moreover, there has been extensive regulatory
change in recent years, and the ICS is yet another initiative insurers have to address – and in a very
aggressive timeframe.
3. Does it reflect current practices or does it break
from them?
Practices differ by country so there is no single current practice standard to compare to, and the ICS is intended to
be a truly global group measure. The current ICS proposal is not the same as any practice in any jurisdiction
currently but most people would say it is closer to European Solvency II approach than to the current US practice.
Accordingly, ICS (as it currently stands) would be a considerable change to the US market. This is why the Federal

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Insurance Office (FIO) is leading a workstream on setting up a GAAP+ concept which will be more closely aligned
to US practice.
4. Who’s going to enforce compliance?
The IAIS does not have any executive powers; its role is strictly to develop regulatory guidelines and best practices
for national supervisors to adopt, either in whole or part. Application of the ICS is up to individual supervisors, and
the question remains if they will do so in many major jurisdictions. In theory, the ICS will apply (via ComFrame) to
only internationally active insurance groups (IAIGs), of which there are roughly 50 worldwide. However, many
observers expect that when the ICS becomes an industry standard, other companies also will use it to calculate and
report their capital adequacy.
Several jurisdictions do not have an IAIG. Therefore, we assume they would not be pressured into introducing an
ICS concept. However, because most jurisdictions readily adopt many IAIS principles, we would not be surprised to
see some of the principles within ComFrame and the ICS “trickle down” to smaller markets, especially where there
is not necessarily global activity but a high concentration of regional activity (e.g., Asia).
The reason countries tend to adopt IAIS guidelines is because when the IMF/World Bank conducts its FSAP
reviews, it uses IAIS principles as the benchmark for assessing the insurance sector. Therefore, it is in many
peoples interest to adopt IAIS standards in order to achieve strong FSAP results (which feeds into sovereign
rating, etc.).
5. Who at insurers will be most affected?
If the calculation is similar to others already in use, then primarily risk, actuarial, financial and compliance will be
affected. If, on the other hand, the calculation is very different, then just about all functional areas could be affected
because of a knock-on effect on product portfolio, pricing, investment strategy, and so on. In either case, Boards
will need to demonstrate they understand the numbers and what they mean, particularly as they relate to
strategic decisions.
Taking a look at the bigger picture, the ICS is only part of a larger regulatory package for IAIGs called Comframe.
Other aspects of Comframe, like governance, risk management policies, ORSA and others also will have an effect of
many areas, regardless of where the ICS ends up.
6. How much investment/effort would implementation and
compliance require?
This depends on the nature of both the calculation that is adopted and its enforcement. It is almost certain that the
calculation will be complex. But, if the calculation is similar to what groups are already using, either because it is
similar to the main regulatory calculation groups use or is similar to their own internal, economic capital
calculation, then the investment/effort will be less significant.
More importantly, if it winds up being similar to current calculations, then the new ICS would not have a major
impact on how the company's business profitability is measured. However, if the calculation is different,
implementation/compliance and business impact will be significant.
Investment and effort may not necessarily be limited to basic compliance. Insurers can look to their experience
with Solvency II, which entailed more than just change to capital standards, but also required significant
investment in new technology, as well as potential changes to organizational structures.

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7. Will product offerings change? Are there certain
products that may disappear?
If calculations are different than those now in use, then, yes, there would likely be impacts on premiums for some
products and some may even become unviable. Many life companies are concerned that if certain types of
calculations (notably, market consistent calculations) are used, then long-term savings type products may be too
costly to remain viable. At the least, if certain products do not disappear, then their design may need changing
(which would change the balance of insurers’ product portfolios).
8. What’s been the reaction of ratings agencies
and analysts?
Ratings agencies typically have their own capital calculation formula and, for the most part, at the group level. It is
not clear if they will replace their own with ICS but could do so if they think the latter is a comparable or
better formula.
Equity analysts typically are concerned with the ability to pay dividends or buy back stock, which happens at the
parent company level. Accordingly, they typically do their analysis at the group level. They have not been a vocal
part of this discussion but probably would find an ICS helpful.
In fact, most stakeholders are likely to support the concept of a global capital standard for the insurance industry,
but there almost certainly will be differences of opinion about what one should look like as details are hashed out
about how the standard will actually work.
9. With all this in mind, is a true ICS likely?
It’s too early to say for certain one way or the other, but even the regulators who question the necessity of an ICS
seem reconciled to the notion that one should be developed. The debate now is what the one true ICS should look
like, and how the calculation should be done is the main area of disagreement between and among geographies. For
other aspects of the Comframe regulatory package, like governance, risk management policies, ORSA etc., there is
significantly less disagreement.
10. What should insurers be doing now?
Building the ICS calculation formula and finalizing the rest of Comframe probably will take several years. The
following are likely to be key steps in the journey:
 In the early stages, companies will want to understand how the different, proposed ICS options may affect
them in order to determine which option they favor.
 As regulators further develop the different options' details, they will want to study how different factors in
the proposed formulae will impact companies. They will ask insurers to conduct studies of these different
factors for their business (i.e., field testing).
 Once the nature of the ICS becomes clear, companies will need to implement the formula (and eventually,
the rest of Comframe).
 All stakeholders should remain aware of ICS developments to assess where there is consensus and
disagreement. If there continues to be significant divergence in how required capital is calculated across
regimes, and if ICS adds complexity rather than reducing it, then most insurers will need to factor these
developments into how they are modernizing or plan to modernize their risk, actuarial, financial and
technology platforms to operate effectively and efficiently in the new environment.
 Insurers may need to redesign and reprice their products, as well as potentially rethink their business
strategies. It is possible that they will need to divest certain businesses and/or add others.

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Background: Capital management
and related issues in the
insurance industry
What are current capitalization requirements?
Current capital requirements in the US are set at a legal entity level. There are no global requirements for a
company that operates in more than one country and calculation formulas for capital requirements typically vary in
each jurisdiction. Solvency II gets close to mandating a group standard. However, it uses the concept of
“equivalence” to deal with differing capital regimes between the EU and the rest of the world, rather than enforcing
Solvency II capital standards on a third country. In other words, if a country outside of the EU is deemed
equivalent, then the group headquartered in the EU can use the capital standard of the operation outside the EU
within its group calculation on the grounds that EU regulators are comfortable with the system in that
third country.
Are those requirements adequate if there’s another market
shock like 2008 or a series of catastrophic events?
During the 2008 shock, some significant companies did not have had enough capital and governments intervened.
In many cases, the formulas that set the capital requirements that proved insufficient are still in use.
However, that doesn’t necessarily mean current requirements would be inadequate for future shocks. There’d need
to be a model to test if current requirements are adequate for a defined market shock like 2008, but we would need
to define exactly what "a series of catastrophic events" means before modeling its impact.
What results in undercapitalization?
The more risky the business, the theory is that insurers will need to hold more regulatory capital against the risk. To
be undercapitalized is normally a reflection of poor reserving or liquidity management.
More specifically, companies hold assets to defease their liabilities, which are calculated based on a more or less
average level of claims. Additional assets are set aside (not available to pay shareholder or policyholder dividends)
to pay for claims should they be higher than the average. This amount of additional assets is the regulatory required
capital. If these assets set aside prove insufficient during a crisis, then under capitalization results.
What is an adequate level of capital reserves (and, if the
level varies by sector, what is the appropriate level
for each)?
Figuring out the answer to this question is what the whole ICS global and country level debate is all about.

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Which sector (reinsurance, P&C, life) has the biggest
challenges remaining adequately capitalized?
There is no perception that this is a bigger issue for one sector compared to another. Past problems have occurred
in all sectors. Some future crisis events will impact all sectors, like credit risk events; others are more harmful for
PC (wind storms) or life (pandemics).
Do different sectors have different standards? In other
words, does life have a lower standard than P&C?
No, the same formula is used across the sectors. The formula will cover risks that are common across sectors with
the same calculation. Different types of risk are covered by having different factors assigned to different exposures.
Some of these will apply only to business/exposures written by life companies or PC companies.
Which are better capitalized, groups or subsidiaries (or does
it vary)?
Each subsidiary typically has an amount of actual and required capital it holds on its own balance sheet. The group
actual and required capital is the sum of these. Many companies hold actual capital in the subsidiaries just
sufficient to cover the regulatory requirement in that subsidiary. They would hold any significant excess at the
parent company. So for these types of companies, that would mean the group is better capitalized than the
subsidiaries. But that is not always the case.
A group parent company typically can send capital to subsidiaries, subject to meeting its own capital requirements
if it is an insurance company. However, the normal capital flow is from subsidiaries to the parent, but the flow is
constrained by the subsidiaries' own capital requirements. (It is important to note that laws differ from country to
country about how readily a company can move capital from one entity to another when it has a group
capital position.)
Are there certain insurance lines that are difficult to
adequately capitalize?
There are certain coverages for which the level of required capital is too high to make premiums affordable. Where
this occurs, some form of government intervention typically occurs (e.g., flood insurance in certain areas). This is
unlikely to change with or without an ICS.
However, when the objective is policyholder protection, capital is not the only tool. Better risk management is also
key, with tools such as the ORSA and governance protocols being paramount. If it is hard to quantify a certain risk
type, then strong risk management principles should augment the degree of policyholder protection.

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To have a more in-depth discussion about the ICS, please contact:
Henry Essert
US Insurance Risk & Capital Leader
+1 646 471 4400
henry.essert@us.pwc.com
Ed Barron
Director, Global Insurance Regulatory Services
+44 20 7213 3398
ed.barron@uk.pwc.com
PwC senior manager Eric Trowbridge also contributed to this report.

9. © 2015 PricewaterhouseCoopers LLP. All rights reserved. PwC refers to the United States member firm, and may sometimes refer to the PwC
network. Each member firm is a separate legal entity. Please see www.pwc.com/structure for further details.