PRA Consultation Paper 19/23: our response

Head of Regulatory Advisory Craig Turnbull introduces BW's in-depth response to the Prudential Regulation Authority's (PRA's) consultation paper on reforms to the Matching Adjustment (MA) framework.

CP19/23 proposes reforms to several different and important aspects of the current Matching Adjustment (MA) regulatory system. Whilst many of these proposed reforms advance both the PRA’s and the government’s objectives, there are some important aspects of the reforms relating to the MA attestation that result in unnecessary ambiguity. This confusion makes it unreasonably difficult for firms’ attesters to understand exactly what it is they are being asked to attest to. It is also unlikely to enhance the effectiveness of the attestation as a supervisory safeguard. 

We have therefore chosen to focus our consultation response on the proposed MA attestation. The recommendations set out in our response would result in an MA attestation and Fundamental Spread (FS) additions framework that is more clearly aligned to the recent MA policy outcome for the calibration of Fundamental Spreads, whilst remaining focused on the most important underlying supervisory objective of the proposed attestation: that firms take greater ownership of the FSs used in their MA calculations, particularly for those MA assets that have risks and features that may not have not been adequately captured in the basic FS calibration. 

There are two key points that underlie our recommendations:

• The HMT policy outcome on the basic calibration of Fundamental Spreads results in material credit risk premia being included in the MA discount rates of vanilla corporate bonds. It is not reasonable to expect the attester to (implicitly) attest that this is not the case, and any ambiguity in this regard should be removed from the attestation framework. Supervisory expectations for the MA attestation approach to non-vanilla assets should be aligned with this policy outcome.
• HMT has granted the PRA two new forms of MA supervisory safeguard: the attestation and firm-specific stress testing. The proposed attestation considers the level of confidence in the MA being earned. A confidence level does not fit naturally into the best estimate liability concept used in Solvency II / Solvency UK. A better approach would be to use stress testing to demonstrate confidence in the sufficiency of firms’ assets to meet their MA liability cashflows as they fall due.

We wholly agree with the points made in the consultation paper on the current materiality of the MA framework for UK insurance policyholders and the PRA’s objectives. Moreover, this materiality is likely to increase substantially in the coming years. We hope our consultation response and recommendations can make a constructive contribution to the consultation outcome and the implementation of an improved MA framework under the Solvency UK system.