Abstract

The rapid and widespread increase in interest rates has opened a debate on the financial health of Italian life insurance companies and the capacity of the European insurance supervisory regime, Solvency II, to provide a reliable and timely representation of their solvency position. This research contributes to the ongoing discussion regarding the effectiveness of Solvency II in promoting financial stability while supporting the insurance sector’s role in long-term financing. Our findings confirm that the Solvency II framework provides effective and early prudential signals both in standard and stressed environments. However, in light of recent, unprecedented market conditions, it could benefit from a targeted review of the calibration process for select parameters, to better balance prudential objectives with the aim to support long-term financing.

The question we aim to address is: how do solvency measurements respond to the unexpected and unprecedented phenomenon of a rapid increase in risk-free interest rates that we recently witnessed? Specifically, does the framework reveal situations of undercapitalization resulting from temporary phenomena that are not adequately interpreted by valuation models, thereby potentially undermining the stability of insurance savings?

To answer this question, our analysis centers on the unavoidable tension between market-consistent valuation principles embedded in Solvency II and the practical challenges of managing long-duration insurance liabilities in volatile interest rate environments. We examine how the key components of the regulatory framework - best estimate liability calculations, risk margin determinations, and Solvency Capital Requirement (SCR) computations - interact with changing interest rate conditions.