Regulation and regulatory capital

Guoqiang Li

10.1 INTRODUCTION

The insurance industry and insurance companies are heavily regulated. There are many reasons for this. An insurance contract is essentially a promise to pay in the future. A policyholder buying an insurance policy pays the premium up front and gets reimbursed for claim costs when an insured event occurs. The time lag between the premium payment and the claim payment could be substantial. For example, an education endowment policy purchased for a newborn baby will have a maturity date that is almost 20 years into the future, when the beneficiary of the endowment policy goes to college. Similarly, a life-dependent immediate annuity purchased at a retirement age of 60 will have income streams from the insurance company issuing the policy for the next 20, 30 or even 40 years.

The best known example of an extremely long-tailed property & casualty (P&C) insurance policy is asbestos insurance because of the latency of asbestos-related disease. Many of the asbestos policies were issued in the mid-20th century. The manufacturing, importation, processing and sale of asbestos-containing products has largely been banned in the US since 1989 (US Environmental Protection Agency