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The Association of British Insurers (ABI) has commented on the potential adverse impact of outsourcing on the calculation of Solvency Capital Requirements (SCR), as proposed in the European Union's new Insurance undertaking directive (Solvency II). Coming after MiFID's restrictions on outsourcing, including additional rules on outsourcing outside of the EU, this could be seen as yet another sign of regulators' disapproval of outsourcing in general.
In their third bulletin on Solvency II, the ABI recognise that the use of outsourcers is now a key part to the business model of many insurers, and that the benefits of these are the fixed term contracts and a clarity of expense levels that would not be otherwise possible without an outsource arrangement. However in the latest Solvency II quantitative impact study (QIS3) testing the application of the rules for calculating SCR, there is the requirement that outsourcing expenses are inflation linked. Together with a further allowance for the risk of the outsourcer failing, the ABI comments that "Taking these two calculations together implies that there is the potential for the SCR to overstate the true level of risk and introduce excess prudence in this area."
Feedback on QIS3 was due for completion at the end of June and the European Commission's proposal for the Solvency II Framework (the Level 1 submission under the EU's Lamfalussy new directive creation process) is due to be released on July 10th, this coming week. The target is for the European Parliament and Council to agree the final Framework directive text is by end-2008, followed by the more detailed Level 2 or implementing measures in 2009 and for implementation to begin in 2010 and to be completed by 2012.
The FSA released guidance notes on outsourcing requirements under MiFID earlier this year, as reported in Chase Cooper news, May 17th, "MiFID - FSA confirms guidance on outsourcing".
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