An Elusive Panacea? The Impact of the Regulatory Valuation Regime on Insurers' Investment Behaviour

50 Pages Posted: 8 Mar 2018

See all articles by Caterina Lepore

Caterina Lepore

International Monetary Fund (IMF)

Misa Tanaka

Bank of England

David Humphry

Bank of England

Kallol Sen

Bank of England

Date Written: February 9, 2018

Abstract

This paper examines how the interactions between the valuation regime and solvency requirements influence investment behaviour of long-term investors with stable liabilities, such as life insurers. Under limited liability, solvency requirements based on historical cost valuation encourage risk-shifting to the detriment of policyholders, while those based on fair value regime can induce procyclical asset sales. A hybrid valuation regime, intended to address these unfavourable outcomes, does not strictly dominate the other two regimes. But both fair value and hybrid regimes outperform the historical cost regime if the regulators can set the penalty imposed on insurers based on supervisory information about their asset quality, even if this information is imperfect.

Keywords: Valuation, historical cost accounting, mark-to-market, risk-shifting, fire sales, prudential

JEL Classification: M41, G28, G22

Suggested Citation

Lepore, Caterina and Tanaka, Misa and Humphry, David and Sen, Kallol, An Elusive Panacea? The Impact of the Regulatory Valuation Regime on Insurers' Investment Behaviour (February 9, 2018). Bank of England Working Paper No. 710, Available at SSRN: https://ssrn.com/abstract=3135870 or http://dx.doi.org/10.2139/ssrn.3135870

Caterina Lepore (Contact Author)

International Monetary Fund (IMF) ( email )

Kuwait

Misa Tanaka

Bank of England ( email )

Threadneedle Street
London, EC2R 8AH
United Kingdom

David Humphry

Bank of England ( email )

Threadneedle Street
London, EC2R 8AH
United Kingdom

Kallol Sen

Bank of England ( email )

Threadneedle Street
London, EC2R 8AH
United Kingdom

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