The impact of operational risk valuation on insurers’ capital requirements according to the rules of solvency II directive

Audrius Linartas, Simona Kavaliauskaitė

Abstract


Currently the EU insurers, including Lithuanian insurers, follow the capital adequacy requirement by comparing two amounts: the required solvency margin and the available solvency margin. This solvency testing is however insufficient to avoid insolvency. New Solvency II rules require the allocation of capital not only for insurance, but also for market, credit, counterparty default, operational and other risks. The article analyses and focuses on operational risk that so far has not been included when calculating the required solvency margin according to Solvency I rules. The authors analyse the instances of insurers’ insolvency in Lithuania from 1998 to 2011 and define that only two risks – operational and liabilities evaluation – were not at least partially included in the actual methodology. Because of its scale and particularity, operational risk may influence not only the financial position of an insurer, by sometimes deteriorating it swiftly and significantly, but also lead to insurer’s insolvency. As from 2014 insurers will be required to meet the capital requirement for operational risk. It is not known exactly how much it might cost to cover that risk. The purpose of this study is to calculate and assess the capital requirement for operational risk. The study has revealed that Lithuanian insurers will have to be ready and prepared for significantly higher capital requirements, which could be disproportionately high in life insurance sector. To assess the estimated capital requirement for operational risk and its influence on insurers’ capital, the comparison with notional SCR amount and the similar capital requirements of some local banks was made.

Keywords


operational risk; Solvency II; solvency capital requirements; solvency margin

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"Business Systems & Economics" ISSN online 2029-8234