Regulating Insurance Groups: A Comparison of Risk-Based Solvency Models

Regulators are currently developing group-wide capital standards that are intended to enable the effective monitoring of insurance groups. Some jurisdictions are taking steps toward models with a focus on the groups’ consolidated balance sheets, while other models focus on the interrelations of the groups’ legal entities. This paper compares two general approaches to group-wide solvency in light of the regulatory challenges of regulatory inconsistency, risk dependencies, and risk aggregation: a consolidated approach and a legal entity approach. In order to contribute to the current discussion on the regulation and risk management for insurance groups, we support our line of reasoning by using a generalized model of Gatzert and Schmeiser (2011). Our findings show that a solely consolidated viewpoint is likely to underestimate shortfall risks in times of financial crises, whereas while a sole focus on the interrelated legal entities generally makes it possible to display different group structures it cannot control regulatory arbitrage.