Draft Solvency 2 and Insurance (Amendment, Etc.) (EU Exit) Regulations 2019 Draft INSURANCE DISTRIBUTION (Amendment) (EU EXIT) Regulations 2019 DRAFT FINANCIAL CONGLOMERATES and Other Financial Groups (Amendment Etc.) (EU Exit) Regulations 2019

John Hayes Excerpts

Monday 4th February 2019 General Committees

[John Glen]

It is a pleasure to serve under your chairmanship, Sir Henry.

As the Committee will be only too aware, the Treasury has been undertaking a programme of legislation to ensure that if the United Kingdom leaves the European Union without a deal or an implementation period, there will continue to be a functioning legislative and regulatory regime for financial services in the UK. The Treasury is laying statutory instruments under the European Union (Withdrawal) Act 2018 to deliver that. Debates on such SIs have already taken place in this place and in the House of Lords, and the SIs we are debating are part of that programme. We have at least 13 more to come.

The draft SIs before us will fix deficiencies in UK law on the prudential regulation of insurance firms, insurance distribution and financial conglomerates to ensure that they continue to operate effectively post exit. The approach taken in the legislation aligns with that of other SIs being laid under the EU (Withdrawal) Act, providing continuity by maintaining existing legislation at the point of exit but amending it, where necessary, to ensure that it works effectively in a no-deal context.

Three SIs are being debated today: draft amendments to the Solvency 2 regulations, the financial conglomerates and other financial groups regulations, and the insurance distribution regulations. The Solvency 2 regulations set out the prudential framework for insurance and reinsurance firms in the EU. Prudential regulation is aimed at ensuring that financial services firms are well managed and able to withstand financial shocks, so that the services that they provide to businesses and consumers are safe and reliable. Solvency 2 is designed to provide a high level of policyholder protection by requiring insurance and reinsurance firms to provide a market-consistent valuation of their assets and liabilities, to understand the risks that they are exposed to, and to hold capital that is sufficient to absorb shocks. Solvency 2 is a risk-sensitive regime in that the capital that a firm must hold is dependent on the nature and level of risk that a firm is exposed to.

The insurance distribution regulations set standards for insurance distributors as regards insurance product oversight and governance, and set information and conduct of business rules for the distribution of insurance-based investment products. The financial conglomerates and other financial groups regulations set prudential requirements for financial conglomerates, or groups, with activities in more than one financial sector.

The three draft SIs that we are debating amend those regulations so that they function properly in a no-deal scenario. The amendments to be made by the draft Solvency 2 regulations, first, remove references to the European Union and EU legislation, and replace them with references to the UK and UK legislation. It is important to stress that the high prudential standards of Solvency 2 are not being altered. Changes are being made to ensure that the Solvency 2 regime continues to operate as originally intended once the UK is outside the EU.

Secondly, the draft statutory instrument alters the arrangements for the regulation of cross-border European economic area groups of insurance and reinsurance firms that provide services in the UK. As in other areas of EU regulation, insurers and reinsurers are subject to the EU’s joint supervisory framework. That enables the requirements of Solvency 2 for a cross-border EEA insurance or reinsurance group to be applied to the group, with one EEA supervisor allocated lead responsibility for supervision of the group, in addition to supervision of solo firms by their respective EEA supervisors. Supervisory co-operation takes place through a college of supervisors in which all the interested EEA supervisors take part.

After exit, however, in a no-deal scenario, the EU has confirmed that it will treat the UK as a third country and that the UK will be outside the joint supervisory mechanisms that are the basis for the current treatment of groups in the EEA. Cross-border EEA groups may therefore become subject to group supervision by both UK and EEA supervisory authorities in the absence of equivalence decisions.

The statutory instrument will transfer responsibility for making equivalence decisions in relation to third-country regimes. Currently, a third country’s regulatory or supervisory regime may be deemed by the European Commission to be equivalent to the approach set out in Solvency 2. After the UK leaves the EU, Her Majesty’s Treasury will make equivalence decisions for third-country regimes.

The statutory instrument will transfer responsibility for a number of important technical functions from the EU authorities to the UK. Most significantly, the risk-free rate—the rate that insurance and reinsurance firms must use to value their liabilities—will be transferred from the European Insurance and Occupational Pensions Authority to the Prudential Regulation Authority. The PRA is the most suitable UK body to undertake the technical function of compiling the risk-free rate. It will also take on the responsibility of publishing the risk-free rate. In addition, responsibility for making binding technical standards, which are currently developed and drafted by the EU supervisory agencies, will be transferred to the PRA, in a manner consistent with the approach taken in the other statutory instruments that we are laying under the withdrawal Act.

The statutory instrument removes obligations for EU competent authorities to share information with each other. If the UK leaves the EU without a deal, it will no longer be appropriate to require UK regulators to share information with EU regulators. UK regulators will continue, however, to be able to use their discretionary powers to share information when doing so might be necessary to ensure that supervisory responsibilities are carried out effectively.

Preferential risk charges for certain assets and exposures that originate from within the EEA, and which are held by UK insurance and reinsurance firms, will be removed. A UK firm’s exposures from the EEA will now be treated in the same way as exposures from any other third country. The EU has confirmed that it will treat UK exposures as third-country exposures if we leave the EU without an agreement.

I will now turn to the draft Insurance Distribution (Amendment) (EU Exit) Regulations 2019. This instrument fixes deficiencies in the regulations and relates mostly to removing inappropriate cross-references to EU bodies and legislation. The instrument transfers to the Financial Conduct Authority the power to make technical standards for a template presenting information about general insurance policies—a standardised document to help customers compare policies and make informed decisions. That power is important as it enables the Financial Conduct Authority to update the document in the future, to ensure it continues to deliver useful information for consumers.

The instrument also transfers relevant legislative functions to the Treasury. Those functions give the Treasury the powers to make regulations about conflicts of interest, inducements, assessments of suitability, appropriateness and reporting to customers, and specifying principles for product oversight and governance.

Finally, I will address the draft Financial Conglomerates and Other Financial Groups (Amendment etc.) (EU Exit) Regulations 2019. This statutory instrument makes changes to the definition of “financial conglomerate”. Under the EU financial conglomerates directive, a financial conglomerate is defined as a group with at least one entity in

“the insurance sector and at least one…within the banking or investment services sector”.

One of those must be located within the EEA. The others can be located anywhere in the world. This statutory instrument will amend the geographical scope of the definition, so that one entity must be located within the UK, rather than the EEA, to be subject to the UK regime.

This statutory instrument amends the definition of “competent authority” so that it no longer includes regulators based in the EEA. It transfers a number of functions from the EU authorities to the UK regulators. The European financial conglomerates directive requires EU authorities to publish and maintain a list of financial conglomerates, for example. That function will now be carried out by the FCA and the PRA. In addition, as with other financial services files, the responsibility for developing binding technical standards will pass from the European supervisory authorities to the appropriate UK regulator.

Finally, as is the case for the statutory instrument that amends the Solvency 2 regulations, this statutory instrument removes obligations for EU competent authorities to share information. If the UK leaves the EU without a deal, it will no longer be appropriate to require UK regulators to share information with the EU. However, the UK regulators will continue to be able to use their discretionary powers to share information where this might be necessary to ensure that supervisory responsibilities are carried out effectively.

The Treasury has been working closely with the PRA and FCA in the drafting of these instruments. It has also engaged the financial services industry on these statutory instruments and will continue to do so going forward. The Committee will have heard from the Association of British Insurers, in a letter of 1 February, how meaningful that engagement has been. In late 2018, the Treasury published these instruments in draft, along with explanatory policy notes, to maximise transparency to Parliament and industry.

[Sir John Hayes (South Holland and The Deepings) (Con)]

On the issue of familiarisation costs, which are dealt with in the SI and are specified more precisely in the explanatory memorandum, it is clear that business is impacted and will endure what are said to be one-off costs in the notes. Will the Minister say a word about that to assuage any doubts?

[John Glen]

My right hon. Friend is right to draw attention to the impact assessment, which covers two of the three statutory instruments. One of them, of course, did not require one because of the de minimis impact. We have done our very best to be as transparent as possible and to quantify those. In the vast majority of cases, it has been about one-off familiarisation costs rather than an enduring burden. I thank my right hon. Friend for giving me the opportunity to clarify that.

In summary, the Government believe that the proposed legislation is necessary to ensure that insurance and reinsurance firms, insurance distributors and financial conglomerates continue to operate effectively in the UK, and that the legislation will continue to function appropriately if the UK leaves the EU without a deal or an implementation period. I hope colleagues will join me in supporting the regulations. I commend them to the Committee.