Why Brazil is optimistic about Solvency II equivalence

Brazil’s regulator says its insurance supervisory rules may be ahead of Europe’s Solvency II requirements  in many of its important provisions

Brazil’s insurance authorities are optimistic that the country’s supervisory model will receive equivalence status to Solvency II, which could be good news for European insurance groups with growing investments in Latin America’s largest market.

The country’s insurance supervisor, Superintendência de Seguros Privados (SUSEP) claims that some of the solvency and capital requirements adopted by the country are even more stringent than those to be met by EU insurers in January 2016. In fact, the tightening of the rules has been such that, according to critics, they are making life difficult for domestic insurers.

SUSEP is currently in negotiations with European Insurance and Occupational Pensions Authority (EIOPA), the EU insurance agency, to evaluate to what extent Brazil’s insurance legislation matches with the forthcoming Solvency II rules.

Contacts were started by EIOPA in 2011, but only got into any gear last year, after Brazil hosted a seminar on insurance supervision attended by the European agency. The next step is for EIOPA to send a team to Brazil that will perform a thorough evaluation of the country’s rules, according to SUSEP technical director Danilo Cláudio da Silva.

Da Silva believes that the results are very likely to indicate that Brazil’s supervisory model is even ahead of European markets in many of Solvency II’s most important provisions.

“In the past few years, we have implemented several Solvency II-like rules in Brazil,” Da Silva told GR in an interview from Rio de Janeiro. 

He said that contacts with EIOPA have indicated that a full equivalence of supervisory models could be on the cards as a result of the changes that Brazil has applied in recent years. 

“By December, we will have already implemented all risk-based capital requirements, something that in Europe it will only be done after 2016,” Da Silva said. 

“Our transparency levels are very well developed too. The part where we may be lagging a little concerns Pillar 2, which deals with governance, risk management and controls.”

But he remarked that SUSEP has already set up a working group with representatives of the market to consolidate standards for governance and risk management systems that today are scattered around the body of Brazil’s insurance legislation. Da Silva is hopeful that the consolidation could be in an advanced stage before EIOPA finalises the evaluation process. “As the whole process lasts a while, I believe that we could be able to get full equivalence right away,” he said.

Among the latest novelties implemented by SUSEP is a liability adequacy test, which was introduced last year and which, according to Da Silva, has brought complaints from the market due to interest rate volatility, which is affecting the results of the tests. “We have already imposed an interest rate term structure that is not being used yet in the EU,” he said. “It is something that is only starting to be discussed at the phase II of IFRS 4.”

The zeal with which SUSEP has implemented its prudential model has actually generated a certain level of grumbling in the market due to the quickness with which companies have had to adapt themselves to the tougher rules. “The market has complained about the fact that the changes are being implemented all simultaneously,” he said. 

“In fact it has been a very quick process, and insurers have had to meet new capital requirements at the same time that they have had to build considerably high levels of provisions for the liability adequacy tests.”

But he said the adaptation pains are soon to end. Da Silva noted that the last task that could prove a challenge for the market is the build-up of capital reserves according to the new formula to calculate market risks, which is due by December this year. “There have been requests to delay the implementation until next year,” Da Silva said. “But, in general, there has been reasonable acceptance of the new rules. It helps that the Brazilian market was already very well capitalised even before the changes were implemented.”

But critics say that SUSEP is showing a somewhat excessive zeal to implement prudential rules that even the European Union is phasing in in a more relaxed way.

“Brazilian prudential rules are even more advanced than Europe’s, but they are excessive to the realities of the local market,” said Antônio Penteado Mendonça, an insurance lawyer based in São Paulo. “In Brazil, more than 90% of the market is made of short-tail insurance. They are annual coverages that do not require reserves that are as robust as those demanded by long-tail risks, which are more common in Europe.”

He added: “What happens here is that the most efficient companies are penalised by capital requirements that are excessively high. As these companies grow, they are forced to put ever more money aside as reserves. At some point, shareholders do not have enough capital available to put into the company.”

Mendonça noted that, as it is today, Brazilian insurers have to make reserves of almost R$1 for every R$1 of premiums written. As a result, those that are not linked to a large financial conglomerate have found it difficult to meet the new capital rules, which as a result tends to strengthen the position of bank-owned insurers that already play a dominant role in the market. Capital struggles have also been behind the acquisition of independent Brazilian insurers by foreign groups, he said.

Mendonça also warned that the rigidity of Brazil’s capital rules could hinder the plans of some multinational groups that want to grow in the country’s promising insurance market. “Some multinational groups are putting money in Brazil without concerns. But others do not have the means to allocate to their Brazilian units the large amounts of money required to meet the latest capital rules at the same time that they try to maximise their performance in the country,” he said.

But for European insurers and reinsurers which have shown a growing interest in Brazil, equivalence could be good news as it would mean that they would have to build up lower capital reserves in Europe regarding their operations abroad. According to Da Silva, equivalence to Solvency II would be also important to make the country’s insurance sector better understood by international markets. 

“When representatives from other countries come to Brazil, they are always surprised with how developed our market is,” he said. “The equivalence process can help us to show that our market is an advanced one and that foreign companies can come here without worries.”