Risk Transfer and the Insurance Industry
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Risk Transfer and the Insurance Industry Gerd Ha¨usler1 International Capital Markets Department, International Monetary Fund, Washington, DC, USA. E-mail: [email protected]
This paper asks whether the transfer of risk from banking to non-banking institutions, such as insurers, has reduced risk for the financial system as a whole or merely shifted it to less transparent sectors. If the latter is the case, then it may be that new forms of risk and vulnerability are being introduced into the global financial system. The Geneva Papers (2005) 30, 121–127. doi:10.1057/palgrave.gpp.2510004 Keywords: credit risk transfer; insurance industry; financial stability
Introduction Twenty years ago, banks and insurance companies maximized the size of their balance sheets: banks accumulated assets in search of a larger market share, and the insurance industry was mostly liability driven. Asset gathering seemed to entail little or no cost of capital. The terms financial system and banking system were largely synonymous. Much has changed since then. In recent years, risk has increasingly transferred from banks to nonbank institutions such as mutual funds, pension funds, insurers, and hedge funds. Banks generally try to distribute the risk that originates with them – particularly concentrations of credit risk – in order to optimize the use of their balance sheets and as an integral part of their risk management practice.2 Some nonbank institutions, in certain markets, have demonstrated a strong or growing appetite for credit risk exposure in various forms. These include insurers who increasingly view credit instruments as a relatively stable investment to meet their liabilities. The development of new credit instruments, particularly derivatives, has facilitated this process. The transfer of risk to nonbanking sectors has raised concerns about ‘‘where the risk has gone’’; whether risk has been widely dispersed or concentrated; and whether the recipients of risk are able to manage it. Most observers agree that the transfer of credit has improved the banking sector’s ability to manage risk, and hence the stability of the banking system. A wide variety of nonbank institutions have taken on that risk. However, the relatively less transparent nature of some nonbanking institutions, their different systems of regulation, and, in some cases, less developed risk management skills have raised questions about whether a reallocation of credit risk has reduced risk for the financial system as a whole or merely shifted it to less transparent sectors. If the 1
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The views expressed are those of the author, and do not necessarily represent the views of the IMF or IMF policy. International Association of Insurance Supervisors (2003); Financial Services Authority (2002); Rule (2001).
The Geneva Papers on Risk and Insurance—Issues and Practice
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latter is the case, it may be that new forms of risk and vulnerability are being introduced into the global financial system. This paper discusses the impact on the financial stability of insurers’ inv
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