On 12 July 2019, the Working Group on Sterling Risk-Free Reference Rates published a letter from Tushar Morzaria, chair of the working group, to Gabriel Bernardino, EIOPA chair, encouraging EIOPA to go beyond monitoring the IBOR transition to now actively removing the recognised Solvency II barriers to this transition.

The letter expressed concerns surrounding the requirement under Solvency II for insurers across Europe to value liabilities using “risk-free” discount rates which are typically derived from IBORs/LIBORs.

Any changes in the interest rate benchmarks used by EIOPA to derive “risk-free” discount rates will:

  • impact the value of insurers’ liabilities, requiring recalibrations of associated investments including hedges; and
  • if “risk-free” discount rates are derived from alternative risk-free rates, then the credit risk adjustment required under Solvency II will no longer be appropriate and will need to be rethought.

The letter also stresses that the absence of a timeline could act as an obstacle for insurers in their preparations for the transition through limiting work they are able to do now to mitigate the risk in the future.

There is also a risk that liquidity in LIBOR derivative markets could markedly reduce sometime before the end of 2021, thereby rendering the existing Solvency II risk free reference rates as inappropriate for use sooner than many market participants might be expecting.

The letter suggests the establishment of a pan-European Taskforce to work with EIOPA to provide constructive industry views and expertise to ensure that any change addresses these barriers. As well as this, the letter asks that, to raise visibility of IBOR/LIBOR transition, EIOPA should publicly confirm broad timelines on the matter.

View: Working Group on Sterling Risk-Free Reference Rates urges EIOPA to remove the recognised Solvency II barriers to IBOR transition