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APRA & Developments in General Insurance

Robert Thomson

Monday 13 September 2004

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Today

• My Background

• APRA – some history

• APRA’s mission and role

• New GI regime

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My Background

• Macquarie University

• Worked in life insurance field (Australia & NZ) in variety of actuarial roles

• Joined regulator in 1998

• Mostly doing general insurance work now

• Also studying law

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APRA – some history

• Formed 1 July 1998

• Resulted from the recommendations of the Wallis Inquiry

• Need for greater consistency of regulatory approach

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Pre-APRA Supervision

• Reserve Bank of Australia (RBA)– Banks

• Insurance & Superannuation Commission (ISC)– Insurers (both life and general)– Superannuation funds

• State government based regulators– Credit unions, building societies– Friendly societies

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Post-APRA Supervision

Parliament

Ministry

Reserve Bank

RBA Board APRA Members

APRAAustralian

Securities & Investments Commission

Monetary Policy

Systemic Stability

Payment Systems

Prudential Regulation deposit taking insurance superannuation

Market integrity

Consumer protection

Corporations

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APRA’s Mission

• Establish and enforce prudential standards and practices designed to ensure that:- under all reasonable circumstances;- financial promises made by institutions are met;- within a stable, efficient and competitive financial

system

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APRA’s Role

• APRA is the prudential regulator for the Australian financial system

• APRA covers around 85% of the assets in the Australian financial system

• This is approximately $2,000,000,000,000!

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Prudential Regulation?

• Prudential regulation is basically the promotion of prudent management of financial institutions:

- Aiming to ensure that institutions have high quality systems for identifying, measuring and managing their risks

- Setting standards (including capital requirements) with the aim of maximising the likelihood that institutions will remain financially sound and able to honour their commitments

- Developing future policy for financial services

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General Insurance

• An industry where APRA has introduced significant changes to the level of prudential oversight:- Governance- Risk management- Capital requirements- Liability valuation methods

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New GI Actuarial Regime

• Commenced 1 July 2002• Requires all general insurers (with some

exceptions) to have an Approved Actuary• Provides a framework for consistent and realistic

valuations of liabilities, both:- Outstanding Claims Liabilities- Premium Liabilities

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New GI Actuarial Regime

• Area of increasing complexity• Scope for significant research and theoretical

development work• Growing demand for actuaries

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Outstanding Claims Liabs

• Amount required for claims that have already occurred but are outstanding at the balance date:- Known claims not yet paid- Incurred but not reported claims (IBNR)

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Premium Liabilities

• Amount required for claims that will occur:- After the balance date- Under policies where the risk exposure has not yet

expired at the balance date

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Short Tail Classes

• Relatively quick notification of claims:- Cars, homeowners- Unpaid claims can be estimated with high degree

of accuracy

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Long Tail Classes

• Much slower notification of claims:- Workers’ compensation, public liability,

professional indemnity- Claims estimation much more uncertain, due to

additional factors of lack of data; superimposed inflation; claims handling costs

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Calculation

• APRA’s Prudential Standard GPS210 requires actuaries to use a two step methodology:- Central estimate; plus- Risk margin

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Central Estimate

• Reflects the mean of the range of likely outcomes of the claims distribution for the class of business

• Probability of sufficiency of 50%• Neither an optimistic nor a pessimistic estimate

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Risk Margin

• Additional amount added to the central estimate• Safety margin to increase the probability of

sufficiency beyond 50%• GPS210 requires a risk margin sufficient to

increase the probability of sufficiency to 75% (at the total portfolio level, allowing for diversification among lines of business)

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Factors affecting Risk Margin

• Robustness of claims models• Volume and reliability of data• Past experience (either insurer or industry)• Characteristics of the line of business

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Example

• Estimate the amount of money you will spend on petrol next year- What variables affect the result?- What assumptions will you make?- How do you estimate the probability of sufficiency

of your estimate?- There can be many reasonable results, depending

upon the assumptions used

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APRA’s role?

• To assess the work of the Approved Actuary for each insurer

• To monitor industry-wide practices relating to central estimates and risk margins

• To carry out research on current and future developments

• To liaise with other regulators