APRA: Supervision Approach

CPA Insurance Industry Symposium 20th November, 2003.

Keith ChapmanGeneral Manager

Diversified Institutions Division

APRA – Supervision Approach

•General Commentary on our supervision approach

•Description of PAIRS and SOARS

•Examples to demonstrate how we ‘populate’ PAIRS

APRA – Supervision Approach

•More detailed supervision

•Focus on risk management improvements

•Strengthened requirements – new discussion paper

•Risk based focus

•Industry harmonisation as appropriate

•Visits to insurers

Probability and Impact Rating System

PAIRS

Taking Account of both Probability and Impact

Supervision Approach - PAIRS

Supervision Approach - PAIRS

Probability of failure = inherent risk - controls - capital

Impact of failure = size

Attention Index = Probability x Impact

Supervision strategy commensurate with Attention Index

Supervision Approach - PAIRS

Advantages of PAIRS:

• gauge the scale of overall supervisory task• identify priority areas• allocate resources according to risk• monitor market trends in risk profiles• increase objectivity and consistency of ratings• greater accountability

Supervision Approach - PAIRS

Inherent Risk Minus

Management and Control Equals

Net riskMinus

Capital SupportEquals

Overall risk of failure

Supervision Approach - PAIRS

Inherent risks• Counterparty default• Balance sheet and market• Insurance• Operational• Liquidity• Legal/ Regulatory• Strategic• Contagion/ Related Party

Management and Control• Board• Senior Management• Operational Management• MIS/ financial control• Risk management• Compliance• Independent Review

Supervision Approach - SOARS

SOARS ‘Supervisory Oversight and Response System’ Grid

Extreme Normal OversightMandated

improvementRestructure Restructure

High Normal Oversight Oversight Mandated improvement Restructure

Medium Normal Normal Oversight Mandated improvement Restructure

Low Normal Normal Oversight Mandated improvement Restructure

Low low Mediumhigh Medium High Extreme

Probability rating

Imp

act

rati

ng

Populating PAIRS – some examples

Counterparty Default• Reinsurance exposure / downgrades• Parental/ intra-Group exposures

Insurance• Incorrect calculations and therefore reinsurance• Reinsurance treaty documentation• Pricing frameworks• Liability valuations and diversification

Populating PAIRS – some examples

Operational Risks• Nature of operations – location, complexity• Robustness of IT hardware and software• Control of outsourced operations

Strategic Risk• Price following• Niche markets

Board of Directors• Skills, longevity• Internal management and risk control framework• Board committee processes• Adequacy of information

MIS/ Financial Control• Robust economic capital models• Systems and reporting frameworks

Populating PAIRS – some examples

Risk Management• Changes in key documents (REMS/ RMS)• Internal audit• Coherent (and consistent?) risk management

processes

Compliance• All legislation – not just APRA related

Populating PAIRS – some examples

Conclusion

•General Commentary on our supervision approach

•Description of PAIRS and SOARS

•Examples to demonstrate how we ‘populate’ PAIRS

Two key features:

CAPITAL ADEQUACY

MANAGEMENT QUALITY

Supervision Approach

Visit APRA’s

website at

www.apra.gov.au