Fitch: New Systemic Risk Criteria Could Affect Some Insurers' Credit Profiles

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CHICAGO--(BUSINESS WIRE)-- This week's expected roll-out of new criteria to be applied by the federal government in defining systemically important financial institutions (SIFIs) could point toward critical differences in the future capital positions and operating profiles of select U.S. insurers.

Fitch sees the forthcoming rule recommendation from the Financial Stability Oversight Council (FSOC), chaired by the Treasury Department, as potentially valuable in shedding light on future capital and liquidity requirements that may ultimately be important in assessing the relative credit quality of the largest U.S. insurance companies.

The FSOC, a 10-voting member body comprised of representatives from the main financial regulatory agencies as well as an appointed insurance expert, was created under the Dodd-Frank legislation in part to identify potential threats to the financial system created by large and systemically inter-connected bank and non-bank institutions. In its second rule-making announcement, the FSOC is expected to provide more detailed criteria to be used in identifying certain non-bank institutions as posing systemic risks to the economy in a financial stress scenario. In advance of the rule-making decision, it has not been clear whether any large U.S. life or property-casualty insurers will be designated as SIFIs.

Fitch sees clarification of the SIFI criteria as potentially significant in differentiating the credit profiles of certain large insurers, particularly with respect to capital requirements and higher operating costs linked to tougher regulatory compliance requirements.

While stronger capital ratios would in and of themselves represent a credit positive, they could also impose higher costs associated with carrying statutory capital. The potential need to carry higher capital against the same risk exposures could make an insurance company designated a SIFI less competitive than its non-SIFI peers. Currently, most large U.S. insurance organizations hold significant excess capital relative to statutory minimums. Therefore, the implementation of higher capitals standards may not be a major disadvantage from a practical perspective in the near term.

The need for a SIFI to comply with both state and federal regulations could raise operating costs. Insurance is state regulated, but SIFIs would additionally be regulated by the Federal Reserve System.

In January the FSOC issued draft criteria for assessing the systemic importance of non-bank financial institutions such as insurers. Those initial general guidelines identified factors such as size, leverage, liquidity, lack of substitute products, existing regulatory scrutiny and the degree of inter-connectedness with other financial institutions. In his testimony before Congress last week, Treasury Secretary Geithner indicated that the FSOC would consider the criteria framework at this week's scheduled meeting, and it is expected that a more granular set of guidelines will be put forward.

Insurance industry representatives have objected in the months since January that the framework proposed in the first set of rules was not specific enough with regard to objective criteria to be used in designating SIFIs. Fitch notes that insurers generally want to avoid being designated as SIFIs due to the noted incremental capital and operating costs.

Fitch expects that any rule-making proposed this week may be subject to a period of feedback before being made final.

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