The standard formula of Solvency II: a critical discussion
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The standard formula of Solvency II: a critical discussion Matthias Scherer1 · Gerhard Stahl2 Received: 20 August 2018 / Revised: 31 July 2019 / Accepted: 15 October 2020 © The Author(s) 2020
Abstract Establishing a standard formula (SF) for the regulation of European insurance companies is a Herculean task. It has to acknowledge very different business models and national peculiarities. In addition, regulatory authorities—as a stakeholder on their own—have a number of supervisory objectives the SF should incentivize. With the intervention of the SF in economic activities, the principle of equal treatment must be maintained. The large circle of users makes its procedural simplicity indispensable to ensure that it is applied and implemented in a proportionate manner. Above all, the SF should be risk-sensitive. Compared to Solvency I, the SF of Solvency II is considered a significant improvement, as many of the aforementioned desiderata have been much better realized. The following analysis and survey of model-theoretical aspects of the SF shows that these improvements could be achieved above all with regard to epistemic uncertainties. The stochastic model underneath the SF is still subject to considerable uncertainties; so that the probability functional of the SF is exposed to significant model risk. As part of the Own Risk and Solvency Assessment (ORSA), insurance companies must prove the adequacy of the SF for their company. The vague prior knowledge represented by the stochastic component of the SF is not sufficient for an SF intrinsic validation of the aleatoric component.
1 Introduction The development of the new supervisory regime for insurance companies—Solvency II—took almost a decade. The further development of the International Insurance Capital Standards is currently under way, see, e.g., [14]. Moreover, EIOPA launched a review of the standard formula (SF) until 2020, see [6]. The practical, but also regulatory theoretical significance of the SF, which implements the Pillar I requirements of Solvency II, can hardly be overestimated, as the amount of solvency capital required (SCR: solvency capital requirement) restricts the business volume * Matthias Scherer [email protected] 1
Technische Universität München Garching, Munich, Germany
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HDI Service AG, HDI‑Platz 1, 30659 Hannover, Germany
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of insurance companies and thus reduces the most significant production factor: own funds. On the other hand, the SCR serves supervisory authorities as a means of achieving their supervisory objectives (e.g. reduction of systemic risks, consumer protection, see, e.g., BaFin [6]). The majority of insurance companies in Germany (about 90%) use the SF to determine their SCR. Only a minority of about 30 insurance companies make use of their legal right to develop an internal model as an alternative. However, the market share of insurance companies with internal models in Germany is approximately 50%. A well written and brief summary of the technique of the standard proced
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