Finally, after a long wait, the Federal Ministry of Finance presented a draft bill dated 14.9.2018 on the amendment of the “Regulation on the Principles Underlying the Calculation of the Premium Reserve” for life insurers and pension funds. It is intended that the new version will come into force this year in order to enable the calculation of the actuarial reserve as at 31.12.2018 according to the new methodology.
The economic relief for the life insurance industry as a result of the new formula is considerable. The rating agency Assekurata has calculated (-> Link to press release) that the allocation to the additional interest reserve (“Zinszusatzreserve”) for the entire industry will be reduced by 14bn euros in 2018. The change in the method takes account of the fact that the additional interest reserve already amounts to more than €60bn and that the further allocations expected in the next few years would have placed a considerable burden on life insurers.
The draft bill is based on the so-called corridor method, which was developed by actuaries of the German Actuarial Society (DAV) in cooperation with the Federal Financial Supervisory Authority (BaFin). Simply put, the core of the change lies in the fact that the reference interest rate is to change from year to year only by a certain percentage X of the difference between the reference interest rate of the previous year and the reference interest rate of the current year according to the old methodology. As a result, the lowering of the reference interest rate will be slower in times of falling interest rates and the increase in the reference interest rate will be delayed in times of rising interest rates. This percentage X, which had long been controversial, has now been set at 9% in the draft. It has a significant influence on the procedure. The lower it is, the greater the deviation from the old procedure.
In economic terms, this means for life insurers and pension funds that the new allocations to the additional interest reserve will decrease in the coming years. Life insurers will have to realise fewer valuation reserves in order to balance its accounts. In theory, profit participation could also be higher, but this is not yet to be expected in the current capital market situation.
In times of rising interest rates, however, the additional interest reserve is also released more slowly, i.e. the return of the funds set aside in the additional interest reserve to the income statement is thus delayed compared with the old method. This smoothing of the “up and down” of the additional interest reserve is economically reasonable. However, how the smoothing affects the balance of the interests of the various customer groups (e.g. contracts expiring in the next few years with high interest rates compared with contracts newly concluded in the low-interest phase with low interest rates) depends very much on the individual circumstances of the company and can only be determined with the aid of complex projections of the portfolios. The effects for customers will therefore be very different, especially as the financing of the funds for the additional interest reserve has been handled very differently by the life companies.
In order to provide a picture of the effects of the changes in the method, we present three scenarios here.
The first graph shows the future development of the reference interest rate (“Referenzzinssatz”) using the old and new methods, assuming that the level of the 10-year zero-coupon euro interest swap rates of 0.886 at the end of August 2018 remains constant in the future.
The second graph assumes a continuous increase in the annual average of 10-year zero-coupon euro interest swap rates by 0.25% points from 2019 onwards. One can see the attenuation and smoothing effect in comparison with the old regulation.
In the third and last chart, ups and downs of the interest rates are assumed. The smoothing effect can also be seen here.
