FINANCIAL INDUSTRY: New IKNB Rating Scheme (by Frans Sahusilawane)

The plan of the Financial Services Authority (OJK) to impose a new rating scheme for the non-bank financial industry (IKNB), which is adopted as an adaptation of the risk-based bank rating, should be welcomed, especially in the context of the insurance industry.

The hope is that this scheme is not just the second revision of the risk-based capital (RBC) scheme that has been in effect in this industry since 1998 but is a smart regulation.

Bambang Budiawan, Head of Supervision of IKNB 2B OJK, explained that in addition to determining the status of supervision, strategy, and handling stages, this scheme encourages companies to prompt self-corrective action to improve performance (Bisnis, 28/2). That is the feature of smart regulation: regulations that create a good business foundation and do not set rigid benchmark points.

However, it provides room for dynamic movement, while at the same time stimulating business actors to reflect and correct themselves in line with the regulatory objectives.

Also, it provides incentives for business actors to behave positively and creates a system in which regulators, in addition to setting goals, also share the responsibility of business actors for the success of its implementation (e.g. Leitner, et al, 2010; Sahusilawane, 2014).

This scheme requires two main elements. First, a comprehensive and targeted set of regulations. The second, the implementation mechanism. Here are some inputs for the preparation of the new scheme.

OJK and the association of business actors (APU) seem to agree that serious attention needs to be paid to the many uniqueness of the insurance industry that differs from the banking sector. Some additional tips need to be conveyed.

First, in determining the parameters and setting the bar, insurance regulators seem to always consider the readiness of business actors to immediately fulfill them or determine high targets with a long time frame.

In the first model, the target is set low. All managed to qualify but stopped there for years at a level that was then overtaken by neighboring local standards (eg minimum capital requirements).

In the second model, a business actor is complacent for a long time, is distracted just before the deadline, and asks for an extension of time (for example, provisions for insurance professionals and actuary staff).

This is different from the approach of regulators in neighboring countries such as Singapore and Malaysia, where the preparation of regulations is always oriented to international standards accompanied by clear roadmaps regarding stages and targets.

That is why in international forums we are sad to see people discussing the Singaporean or Malaysian version of RBC more. Though they only started after we made our first revision of the RBC set in the mid-2000s.

Second, in international practice, apart from regulatory standards, industry/market standards apply, on average, which is 50% higher. This is implemented in the company's rating agencies and security committee.

Like following this approach, Bank Negara Malaysia requires each company to set an Individual Target Capital Level above the Supervisory Target Capital Level (SCTL) of 130%.

In real terms, recently a CEO of a reinsurance company in Malaysia complained that his company's RBC level was around 180% (well above SCTL) and just felt comfortable at a level above 200%. This is the fruit of smart regulation! We are encouraged to continuously improve towards the highest standards of best practice.

In recent years, there has been progressing in the cooperation between OJK and APU to jointly assume responsibility for the successful implementation of regulations.

However, in some cases, it seems that this mechanism has stalled somewhere somehow. Regulators need to ensure that the implementation of the monitoring system, including stimulating prompt self-corrective action, is working to ensure that hazards are extinguished when new ones emerge. Not when the fire has gotten as big as it has been in recent cases.

In this case, the case of "engineered fees", excessive insurance commissions that create a high-cost economy and deviate from the mandate of the insurance law regarding the number of premiums (cannot be too high so that they are detrimental to the insured; cannot be too low to endanger the survival of the insurer), pondered together.

Carrying out the mandate of this law, OJK sets the rate for property insurance (AP) and motor vehicle insurance (AKB) and regulates that the net premium received by insurance companies (to pay claims, administrative costs, expected profit, etc.) is at least 85% ( AP) and 75% (AKB) of the premium paid by the insured.

This is following the acquisition cost which is assumed to be 15% (AP) and 25% (AKB) in the tariff structure. However, in recent years, the acquisition cost has increased by 50% -70%. This means that the net premium received by the insurer is only 30-50%.

To overcome this, the Indonesia General Insurance Association (AAUI) asks its members to make a mutual agreement not to pay excessive commissions.

Imagine, an agreement from market players is needed to implement regulations according to the mandate of the law. Only in Indonesia! There is a part in the mechanism for implementing this regulation between OJK and APU that is stuck or has not yet been developed.

Various studies conducted after the 2008 global financial crisis concluded that insurance entities were not a trigger for systemic risk even though there were several insurance companies identified as SIFI (systematically important financial institutions) within the framework of the Dodd-Frank Act in America.

Although it is difficult to imagine that our insurance company is classified as a SIFI entity, regulators need to be aware of the triggering of systemic risk from the aggregation of actors through our insurance industry work system.

According to AAUI data, the “engineered fee” problem has increased the combined ratio of general insurance companies with total assets under IDR 500 billion to 103% in 2016 and 104.5% in 2017, and the situation may get worse in 2018. This concerns the survival of 80% of the company. our general insurance.

Problems can arise from the mutual insurance mechanism between them. Although this is allowed under regulation, under such market conditions a congregational default could lead to systemic risks such as the LMX Spiral phenomenon that nearly brought down Lloyd's of London in the early 1990s.

Just to illustrate, the case of PT Asuransi R's default two years ago is known to have caused a burden on an insurance company whose 

Source : Bisnis Indonesia