Category Management Insights
20 December 2017

What is the systemic risk of insurance companies and how should regulators act on it?

Due to concerns about insurance companies posing systemic risks during financial crises, some of the largest global insurers have been classified as systemically important, alongside the banking sector, and are subject to additional prudential regulation. But how systemically important are they, and what should be the appropriate regulatory approach? These issues are explored in this paper by Christoph Kaserer, Professor of Finance at TUM, and Christian Klein, Ph.D.-student at TUM.


During the financial crisis of 2007–09, many banks were on the brink of failure, as was at least one major insurer: American International Group (AIG). In order to prevent a meltdown of the financial system, the US Government bailed out AIG in September 2008 with an $85 billion loan. As a consequence, in 2013 the Financial Stability Board published a list of global systemically important insurers (G-SIIs). The November 2016 update of the list comprises nine firms, including UK-based Aviva and Prudential and German-based Allianz. These insurers are required to adhere to higher capital standards, as well as to implement recovery and resolution plans. Munich Re is not on this list because, for the time being, reinsurers are not included.


What is the difference between banking and insurance?

The question of whether insurers pose a substantial systemic risk for the wider financial system has given rise to much controversy. In fact, the main factors why banks pose systemic risks, i.e. liquidity and maturity transformation, contagion effects and negative externalities, do not directly apply to insurance firms.

However, a potential negative externality caused by a crisis in the insurance sector cannot be easily dismissed. Most importantly, such externalities arise among those insurers that play an important role in financing the real economy, such as life insurers, bond and mortgage insurers, and reinsurers. Recently, this interconnectedness with the real sector has become even more important, as the distinction between the banking sector and the insurance sector has blurred.


Empirical evidence on systemic risk in insurance

Ultimately, whether or not the insurance sector is systemically risky is an empirical judgement. And if it is, to what extent and why. This is the major contribution of the paper. Using simulations based on empirically observable spreads of credit default swaps (CDS), we evaluate three major systemic risk measures, i.e. the distress insurance premium (DIP), the conditional probability of default (CoPD), and the conditional probability of systemic distress (CoPSD).


Based on this methodology, we analyse a total of 201 major banks and insurers over the period 2004 to 2014. Our results highlight an important ambiguity between the systemic risk of the insurance sector as a whole and the systemic importance of individual insurance companies. Indeed, we find that the insurance sector as a whole accounted for less than a tenth of the global financial system’s aggregate systemic risk, even during the financial crisis and the ensuing European sovereign debt crisis. This difference can be seen in the graph, where we show the distress insurance premium (DIP), i.e. the insurance premium each sector would have to pay for insuring the losses that financial crises inflict on their depositors, policyholders, investors, and other creditors of financial institutions. More than 90 percent of the total premium would have to be paid by the banking sector, clearly indicating that the systemic risk of this sector is larger by an order of magnitude as compared to the insurance sector.

However, while the insurance sector as such is not a major contributor to systemic risk, we identify a limited number of insurance companies that individually still appear to be systemically important. Among the financial institutions with the highest marginal DIP—that is, the highest individual contributions to aggregate systemic risk—we classify numerous banks and some large insurers from the multi-line insurance and life insurance segments. Property & casualty insurers and bond and mortgage insurers come in low in either ranking, and therefore do not appear to be systemically important.


Our empirical findings are consistent with the previous theoretical argument that systemic risk in insurance is not obvious. For many of the insurers’ traditional business activities, such as property & casualty insurance, systemic risk is not expected. This may well be the reason why the systemic risk contribution of the insurance sector as a whole is rather limited. Nonetheless, business activities that entail high interconnectedness and large externalities, such as life insurance and reinsurance, may well indicate an elevated level of systemic risk.


Policy implications

Our results have implications for the regulation of systemic risk in financial markets, especially with respect to the regulatory approach prevailing in the EU. On the one hand, the insurance sector’s contribution to aggregate systemic risk is relatively contained. Our results, therefore, do not support a tighter regulation of the insurance sector in general. Rather, we advocate directing the majority of the regulatory effort to enhancing financial stability in the banking sector. The insurance sector’s contribution to aggregate systemic risk ought, nevertheless, to still be monitored closely to provide an early warning signal should the risk increase in the future.


On the other hand, some individual insurers appear to be as risky as systemically important banks. Moreover, insurers’ systemic importance appears to cluster by business activity. While regulation today is focused on a small number of systemically important insurance firms, a differentiating approach should focus more on specific business activities within the insurance sector. This paper advocates for an integration of an activity-based approach with the entity-based approach, which is in place today.





Prof. Dr. Christoph Kaserer
Financial Management and Capital Markets


Chair Financial Management and Capital Markets



Christian Klein



Systemic Risk in Financial Markets – How Systemically Important Are Insurers? Forthcoming in Journal of Risk and Insurance.