EU regulator reveals plan to assess sustainability risks under Solvency II
The European Insurance and Occupational Pensions Authority is seeking feedback on its proposals to examine the links between sustainable investments and solvency risks.
Earlier this week, the EU insurance regulator formulated its position on how it intends to assess insurers’ sustainable assets and activities in the review of Solvency II – the EU insurance regime that regulates European insurers’ governance, accountability and risk management systems, as well as how much capital they need to hold to reduce their risk of insolvency.
In its discussion paper on the ‘Prudential Treatment of Sustainability Risks’, the European Insurance and Occupational Pensions Authority outlines the scope, methodologies and data sources it deems necessary to evaluate whether Solvency II regulation needs to be strengthened to reflect sustainability risks more clearly.
Areas of focus
Last year, the European Commission proposed several amendments to Solvency II (which has been in force since January 2016), among which a few related to the European Green Deal to reach net zero by 2050.
More specifically, the commission mandated Eiopa to explore by 2023 “a dedicated prudential treatment of exposures related to assets or activities associated substantially with environmental and/or social objectives”. The Eiopa paper attempts to answer this by concentrating on three separate focus areas: assets and transition risk exposures; underwriting risk and climate change adaptation; and social risks and objectives.
The EU regulator is seeking feedback on its proposals in these areas through a survey containing 82 open questions. These cover a range of topics, such as: views on the scope of greenhouse gas emissions; the treatment of financial institutions regarding transition risk; buildings’ energy efficiency and their value on the market; and the potential role of corporate governance in reducing potential social risks.
Participants have until March 5 2023 to respond; Eiopa will then consult publicly on its empirical findings and potential policy implications at a later stage, yet to be confirmed.
Wider changes
In its amendments to Solvency II, the European Commission also proposed that insurers should identify any material exposure to climate change risks and, where relevant, assess the impact of long-term climate change scenarios on their business.
Climate change risks are widely divided into two categories: physical risks, being predominantly environmental events with a negative impact; and transition risks, which arise from transitioning to a lower carbon economy. Recently, Sustainable Views reported on the lack of insurance options for corporate transition risks.
In its proposals, the commission also gave Eiopa a second mandate, namely to reassess the capital charges related to natural catastrophe risk – that is, whether insurers’ existing cash buffers against natural disasters are still sufficient. Eiopa is set to publish a natural catastrophe protection gap dashboard in the coming days, ahead of a more in-depth report on the topic.
Meanwhile, additional legislation for insurers regarding sustainability risks in their governance practices has already come into force. Since August, insurers and reinsurers are allowed to invest only in “assets, the risks of which they can identify, measure, monitor, manage, control and report properly”. As part of the “prudent person principle” in Solvency II, insurers now also need to take into account the sustainability preferences of their customers in the product approval process.
Moreover, the latest regulations also mandate that insurers’ remuneration policies should contain information on how they integrate climate and environmental issues in their risk management systems.
However, the insurance market is likely to face jurisdictional differences on sustainability regulation. For instance, the UK government is taking active steps to differentiate itself from EU-imposed regulation and has announced it favours relaxing the rules on capital buffers for British insurers. As a result, this divergence is expected to incentivise UK insurers to increase exposure to long-term assets.
Photo credit: Eiopa