ON THE LEFT: Saving consumers from insurance risk
Should Barbados take further steps to protect customers from insurance risk?
Risk-based capital (RBC) is a method of measuring the minimum amount of capital appropriate for a reporting entity to support its overall business operations in consideration of its size and risk profile. RBC limits the amount of risk a company can take.
It requires a company with a higher amount of risk to hold a higher amount of capital. Capital provides a cushion to a company against insolvency.
RBC is intended to be a minimum regulatory capital standard and not necessarily the full amount of capital that an insurer would want to hold to meet its safety and competitive objectives. In addition, RBC is not designed to be used as a stand-alone tool in determining financial solvency of an insurance company; rather it is one of the tools that give regulators legal authority to take control of an insurance company.
Before RBC was created, regulators used fixed capital standards as a primary tool for monitoring the financial solvency of insurance companies. Under fixed capital standards, owners are required to supply the same minimum amount of capital, regardless of the financial condition of the company. The requirements required ranged from US$500 000 to US$6 million and was dependent upon the state and the line of business that an insurance carrier wrote.
Companies had to meet these minimum capital and surplus requirements in order to be licensed and write business in the state. As insurance companies changed and grew, it became clear that the fixed capital standards were no longer effective in providing a sufficient cushion for many insurers.
The NAIC’s RBC regime began in the early 1990s as an early warning system for United States insurance regulators. The adoption of the US RBC regime was driven by a string of large-company insolvencies that occurred in late 1980s and early 1990s. The RBC regime was created to provide a capital adequacy standard that is related to risk, raises a safety net for insurers, is uniform among the states, and provides regulatory authority for timely action.
The RBC formula was developed as an additional tool to assist regulators in the financial analysis of insurance companies. The purpose of the formula is to establish a minimum capital requirement based on the types of risks to which a company is exposed.
Under the RBC system, regulators have the authority and statutory mandate to take preventive and corrective measures that vary depending on the capital deficiency indicated by the RBC result.
These preventive and corrective measures are designed to provide for early regulatory intervention to correct problems before insolvencies become inevitable, thereby minimising the number and adverse impact of insolvencies.
The NAIC RBC system operates as a tripwire system that gives regulators clear legal authority to intervene in the business affairs of an insurer that triggers one of the action levels specified in the RBC law.
As a tripwire system, RBC alerts regulators to undercapitalised companies while there is still time for the regulators to react quickly and effectively to minimise the overall costs associated with insolvency.
In addition, the RBC results may be used to intervene when a company is found to be in hazardous condition in the course of an examination.
The National Association of Insurance Commissioners is the United States (US) standard-setting and regulatory support organisation created and governed by the chief insurance regulators from the 50 US states, the District of Columbia and five US territories.