Bank of England warns of new threat from underpricing of financial risks

Mark Carney says regulator will crack down on insurers if they downplay dangers

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Insurance companies that are excessively aggressive in their asset valuations will face a regulatory crackdown, the Governor of the Bank of England warned yesterday.

In a speech to the Institute and Faculty of Actuaries’ General Insurance Conference at Celtic Manor in Newport, Mark Carney said the global financial crisis had demonstrated the dangers of “poorly designed” internal risk models at financial companies. “The Bank won’t hesitate to withhold approval of inadequate or opaque models,” he said. “Models must be based on appropriate data and account for all quantifiable risks”.

The Bank of England is responsible for the oversight of insurers through its Prudential Regulation Authority (PRA) arm, which is headed by Andrew Bailey. New European Union rules known as Solvency II, which are being rolled out next year, require insurers to calculate how much capital they should hold on their balance sheet, using models that will need to be approved by the PRA.

Mr Carney added that the boards of insurers would be held accountable for getting these judgements right. “Boards have the responsibility to ensure models remain appropriate and to show they are used in practice” he said.


The Governor added that the Bank was working on a vetting process for key staff in the industry, including actuaries, although this will not be as rigorous as that being introduced for bankers. “These senior persons will be expected to prove their fitness to regulators before they take up a role, and the onus will be on them to ensure risks are understood, measured and properly considered.”

As justification for the tougher approach to regulating insurers, Mr Carney pointed to AIG, the giant US provider that had to be rescued by the American Government during the financial crisis after it wrote trillions of dollars of credit-default swap contracts that it was unable to honour after the collapse of Lehman Brothers. “That sorry experience highlights the need to understand all the activities in which insurers are engaged, including on occasion substantial business beyond the boundaries of traditional insurance.” Speaking about the economy, he reiterated that the next rise in interest rates by the Bank is “getting closer”, although the judgement about when “has become more balanced”.

In her first interview since joining the Bank’s Monetary Policy Committee, the new Deputy Governor, Nemat Shafik, told The Yorkshire Post yesterday that she was neither a hawk nor a dove on rates but an “owl”. She said: “I asked my children and they said, ‘Mummy, you should say you’re an owl. Look at the data, try and be wise’.”