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PCI Calls FSOC Proposed Rule an Improvement; Urges Economic Cyclicality as Additional Factor

Posted on 27 Dec 2011

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Last week, the Property Casualty Insurers Association of America (PCI) submitted comments to the Financial Stability Oversight Council (FSOC) on its latest proposed rule on identifying systemically important nonbank financial firms. The new proposed rule takes important steps to recognize that home, auto and business insurance activities are not systemically important.

“The Dodd-Frank Act appropriately treated insurance very differently than other financial sectors, and recognized the strong consumer protections currently provided by the state insurance regulatory and guaranty fund system,” said Robert Gordon, PCI’s senior vice president of policy development and research. “This new rule goes much farther than previous proposals to recognize that home, auto and business insurers have remained strong and stable and are not systemically important.”

As outlined in comments to the FSOC, PCI generally commended the Council for its second notice of proposed rulemaking (NPRM), which makes significant improvements over the earlier proposed rule and adds important details for the SIFI designation process. The new proposed rule includes a three-stage process for evaluating nonbank financial companies. However, PCI underscores the need to add further clarification on how the Stage 1 initial screen will work. PCI also urges the Council to include in its Stage 2 and 3 analyses consideration of economic cyclicality, i.e. the degree to which a firm’s failure is likely to correspond with downturns in the general economic cycle thereby creating a domino systemic impact.
"We are pleased that the new rule provides additional greater objective measurements, which will help minimize reliance on subjective criteria,” said Gordon. “Property casualty insurers are not highly leveraged or interconnected and have a fundamentally different business model than banks, a fact that warrants different regulatory treatment. Moving forward, we urge the FSOC to add economic cyclicality to the factors it will consider in measuring systemic importance.”
Highlights of PCI's comments include:

Stage 1 Initial Screen

PCI is particularly pleased that the Council has established a new Stage 1 initial screen to limit the firms that will be subject to further review for systemic importance. PCI has advocated a systemic importance screen throughout the Dodd Frank Act process. It is vitally important that the Council establish mechanisms that will allow it to focus on those companies that are truly capable of posing systemic risk.
Clarification That Only U.S. Financial Data is Relevant

PCI urges the Council to clarify that only data relating to U.S.-based or owned assets will be considered in its analysis of foreign nonbank financial companies. In Stage 1, the Council notes that it “intends to apply a size threshold of . . . $50 billion in U.S. total consolidated assets for foreign nonbank financial companies.” Firms meeting that size threshold must then also meet at least one of five other activity related thresholds to be subject to further review.  However, the NPRM does not indicate whether all of these additional Stage 1 criteria would be measured using U.S.-based or global assets.
Economic Cyclicality

International regulators are actively considering the role of economic cyclicality as a critical factor in determining systemic risk. Cyclicality is the likelihood that a firm’s financial performance will deteriorate simultaneously with declines or increased volatility in general financial markets. These international regulators are recognizing that firms that are highly exposed to market cycles will pose higher systemic risks. As such, PCI suggests that the Council also include economic cyclicality as a factor for consideration in Stages 2 and 3.
In 2010, PCI commissioned a study by NERA Economic Consulting entitled “Systemic Risk Assessment Methodology” and presented it to the FSOC for consideration during the Dodd-Frank implementation process. The report included a detailed discussion of economic cyclicality and suggested a method of assigning a weighted rating to it.
Coordination with International Designations 

The FSOC should coordinate its efforts with the international Financial Stability Board (FSB) to help minimize conflicts between FSOC’s analysis of potential systemically important firms and the FSB’s analysis of global SIFIs (G-SIFIs). In the case of insurance, PCI also recommends close coordination with the International Association of Insurance Supervisors (IAIS), whose recommendations are increasingly recognizing the lack of both economic cyclicality and systemic risk associated with property casualty insurance activities.
PCI is composed of more than 1,000 member companies, representing the broadest cross-section of insurers of any national trade association. PCI members write over $180 billion in annual premium, 38.3 percent of the nation’s property casualty insurance. Member companies write 44.3 percent of the U.S. automobile insurance market, 31.6 percent of the homeowners market, 36.3 percent of the commercial property and liability market, and 42.6 percent of the private workers compensation market.