VII. THE INSURANCE AND PENSION FUND SECTORS

Transcription

1 THE INSURANCE AND PENSION FUND SECTORS 59 VII. THE INSURANCE AND PENSION FUND SECTORS A. The Insurance Sector 26 The size of the insurance market cannot be properly assessed because of the lack of reliable date. The total aggregate annual amount of gross written premium for all insurance companies are by some market participants believe to be about US$ 60 US$ 80 million for the non-state owned insurance companies and four or five times that amount for the state owned insurance companies. Reinsurance is not much used and it is thought that the total amount of reinsurance premium is equal to maybe percent of the gross premium written. In addition to the three state-owned insurance companies there are about 18 private sector companies. Five insurance companies are listed on the ISX. The state-owned insurance companies dominate the market. The reason for the domination of the three state owned insurance companies (the National Insurance Company, the Iraqi Insurance Company, and the Iraqi Reinsurance Company) seems to be that all or almost all government contracts for insurance services are given to the state owned insurance companies. Although article 81 in the Insurance Business Regulation Act requires that government contract for insurance shall be procured through a public tender where all licensed insurance companies are allowed to participate, the common perception is that the state-owned insurance 26. The comparative materials from the Middle East and North Africa Region in this assessment are from the report: The Insurance Sector in the Middle East and North Africa Region: Challenges and Development Agenda, Rodney Lester, the World Bank. November Many of the recommendations in this assessment also draw on this report.

2 60 REPUBLIC OF IRAQ FINANCIAL SECTOR REVIEW companies always are awarded the contracts with the government. In the other countries in MENA region government business also tends to be placed with insurers in which the government has a significant interest, but this is gradually breaking down. Mandatory placement of government business is declining as governments realize the benefits to be obtained from modern risk management technology available through the international brokers, and the fact that they have been cross subsidizing loss making insurance products. The dominant presence of the state insurers has been showed to slow down development of the insurance market so in order for the insurance sector to grow at normal pace, privatization of the state-owned insurance companies should be considered. It may be necessary for the state owned insurers to go through a process of full financial and operating audits and transitioning to become organized a corporation (joint-stock company) prior to eventual privatization. There are at least four other countries in the MENA region which are transitioning from a historical legacy of state monopolies (Algeria, Egypt, Libya, and Syria) and a common approach in the region has been to introduce private shareholders through direct placement (STAR in Tunisia) and/or an IPO (Libya Insurance in Libya). Some of the private insurance companies are very small and that creates some uncertainty as how many of the insurance companies are actually operational. It is worth noting that the insurance markets in the MENA region seem excessively fragmented in some countries and this may have hindered the sector s development. That would be the situation where there are too many companies sharing very small markets. As a result, the insurance companies are unable to generate scale, retain a sufficient volume of premiums, build meaningful risk pools and underwriting capacity and innovate. Many insurance companies seem to act simply as brokers or front offices, reinsuring most of the business. Minimum capital requirements are a traditional supervisory tool to screen the number and quality of applicants in insurance and other sectors, and the supervisor in Iraq should consider using the minimum capital requirement as a tool to prevent a situation of excessive number of insurers, some of which are playing only a marginal role. There is no compulsory insurance. Mandatory car insurance is very common around the globe as are other forms of compulsory insurance such insurance workmen s insurance for injuries and accidents at the workplace, but no compulsory insurance has been established in Iraq. The mandatory car insurance should be developed to provide protection to persons injured by vehicles. Once mandatory car insurance (MTPL insurance) is implemented it will be an important step in helping the insurance sector grow. The insurance sector is regulated by the Insurance Business Regulation Act from 2005 (the insurance act ). This act has many of the features of a modern insurance law, in that it establishes a supervisor, introduces the licensing concept, includes capital requirements, regulates intermediaries and has regulation on how an

3 THE INSURANCE AND PENSION FUND SECTORS 61 insurer shall exit the market place when it does not meet the requirements in the law. It does, however, in almost all the regulated areas fall short in respect of one or several of the essential elements listed in the ICP (Insurance Core Principles and Methodology) issued by IAIS (International Association of Insurance Supervisors). It is for that reason recommended to amend the insurance act so it brought in full compliance with the best practice standards. The supervisor for the insurance sector, the Iraqi Insurance Diwan, was established following the passing of the Insurance Business Regulation Act. The supervisor received support from USAID from March 2005 to June 2006 and set up a website, became member of the IAIS and entered into a MOU with the Iraq Insurance and Reinsurance Association. In the last years the supervisor has, however, been very passive. The lack of activity by the supervisor manifest itself by the fact that very few of the market participants know that there is an insurance supervisor and even government officials were confused about the existence of the supervisor, questioning its name etc. For the future development of the insurance sector, it will be important to strengthen the supervision of the insurance sector. The supervisor is now staffed by only a consultant and two civil servants, so the staffing of the supervisor also needs to be increased. The insurance act provides the insurance supervisor with some measure of independence. The insurance act has explicit procedures regarding the appointment and dismissal of the president of the supervisor. The president of the Diwan can only be dismissed based on a decision by the Prime Minister and approved by the Presidents Council and a justified reason needs to be provided for dismissing the president of the Diwan prior to the end of the tenure (article 7). The Diwan is founded by fees collected from the supervised entities (article 9) and this provides the supervisory with financing while not undermining its independence from political, governmental or industry bodies. The act also includes conflict of interest rules to employees of the Diwan such as imposing a prohibition on dealing in shares and investing in the companies they supervise (article 91). The supervisor furthermore has the authority to hire, contract or retain the services of external specialists through contracts or outsourcing arrangements if necessary (articles 8 and 54). The act requires that the supervisor publishes a report annually on the conduct of its policy and describes its performance in pursuing its objectives (Article 11). The act also allows for substantive judicial review if the supervisor denies an application for a license (Article 19). The insurance supervisor should, however, be strengthened and provided with adequate levels of legal, administrative and budgetary independence. The insurance supervisor is organized under the Ministry of Finance and subject to the Minster s direction. It is consequently not free from undue political and governmental interference in the performance of supervisory responsibilities. It should instead be provided with administrative autonomy and conditions needed to attract and retain qualified personnel. The insurance supervisor could be organized either as a separate supervisory agency, such as in Jordan, Syria and

4 62 REPUBLIC OF IRAQ FINANCIAL SECTOR REVIEW Tunisia, by merging the insurance supervision with the capital market authority or other non-banking regulators, such as in Egypt and Oman or be set up inside the central bank, such as in Bahrain and Saudi Arabia. The insurance act requires insurers to be licensed but there are significant exemptions. The President of the Diwan can allow an insurer to operate before obtaining a license and foreign insurers or insurers affiliated with a foreign insurer can operate without a license provided they come from a country that apply the IAIS core principles for insurance. Insurers that hold an old license can also continue operating under the old license and are not required to apply to be license in accordance with the requirements under the act. The insurance act does not properly define the permissible legal forms of insurers and allows a wide array of company types to conduct insurance business. An insurer can in accordance with the act be organized as a public company, a private company, a mixed shareholding company (mix of owners from state sector and non-state sectors), a takaful and a retakaful company. There are five types of private companies of which three have unlimited liability (the joint liability company, the sole owner enterprise, and the simple owner company). In addition, an insurer or reinsurer that the President of the Diwan considers to be qualified and financially capable can conduct insurance business regardless of organization form (Aticle 13). The insurance act is on this point in conflict with the Company Law No. 21 of 1997 which requires that an insurance and reinsurance company must be organized as joint-stock company (Article 10). The insurance act should require that all companies conducting insurance business are licensed and the law should at least require that the insurance company is organized in a company structure with limited liability. As a general rule branches of foreign companies should only be allowed if it assets covering liabilities and required solvency are held locally and the parent company has very high claims paying and credit ratings. The insurance act does contain requirements to the board members and key functionaries professional experience, but does not include licensing criteria to the insurer s significant owners, auditor and actuary. The requirements to the board members and key functionaries integrity are also insufficient, making a criminal conviction or a serial violation of the insurance act or the corporate law the only barrier to not being considered fit and proper (Article 42). The insurance act does not stipulate that the supervisor shall assess the qualification of auditors and actuaries of an insurer as part of the licensing procedure or later. Instead the act requires that the shareholder committee select an independent accountant to examine the financial information of the insurer and notify the Diwan, if it is found that the insurer is unable to cover its financial obligations, meet the law s capital adequacy requirement or that the accounting practice of the does not conform to legal framework s requirement to acceptable accounting practice (Article 36).

5 THE INSURANCE AND PENSION FUND SECTORS 63 The insurance act does require that an insurer obtains the supervisor s approval before it transfers all or any part of its insurance business (Articles 48 and 50). The act should be amended so it includes a definition of the term control that gives the threshold for obtaining control in legal terms as a result of holding of a defined number or percentage of issued shares or specified financial instruments (such as compulsory convertible debentures) and the supervisor should check whether those seeking control meet the fit and proper criteria. The supervisor should also require that the structures of a financial group containing potential controlling owners of insurers should be sufficiently transparent so that supervision of the insurance group will not be hindered. Insurers are required by the insurance act to report on their financial position and the risks they are facing (article 38) but these requirements are not enforced by the supervisor so there is in practice no reporting of financial information from the insurers to the supervisor. The insurance act requires insurers to prepare and provide their annual report to the supervisor (Article 38), but they are not required to provide it to other stakeholders. The insurance act requires the insurer annually to provide an audit opinion, with its annual report and annual financial account (Article 38). The insurance act gives the supervisor the power to set the requirements for the submission of regular and systematic financial and statistical information, actuarial reports and other information from all insurers. The supervisor has not made use of the power to set requirements to the information from insurers including defining the scope and frequency of those reports and whether it should be audited. There is in general in the MENA region a lack of consistent, timely and high quality data available to the supervisors and those sections of the general public and the industry that need such information. This may among other things be caused by a desire by family and financial and industrial controlled groups to not reveal such information. All insurers should, however, be required to submit financial and statistical information to supervisors in electronic form according to agreed templates, timetables and definitions. The insurance act does not grant sufficient powers to the supervisor for effective discharge of its supervisory responsibilities. It is particularly serious that the act does not explicitly give the supervisor the power to conduct on-site inspections. There are no requirements in place that requires that insurers comply with standards on investment activity. The insurance act anticipates that the supervisor shall issue instruction regarding insurer s investments (Article 12) but regulations relating to allowable investments, matching of assets and liabilities and suitable forms of capital have not been issued. The insurance act (Article 12) delegates to the supervisor to issue regulation regarding solvency margin but such regulation has not been issued. The supervisor should consider following the lead from most MENA countries that

6 64 REPUBLIC OF IRAQ FINANCIAL SECTOR REVIEW broadly follow the original EU Solvency 1 regime, with some countries modifying the premium and claims weightings according to the class of business. Two countries (Jordan and Syria) have adopted a modified US risk based capital approach, which implicitly allows for a graduated response to deteriorating insurer solvency. Saudi Arabia has also implemented such an approach in the context of a modified European solvency formula. As a number of other insurance legislations in the region the Iraqi insurance act have an old fashioned minimum guarantee requirement related to minimum capital. This requirement is not up-to-date and should be replaced with a more modern solvency regime. The result of following a minimum guarantee requirement is often that the minimum capital requirement instead takes on a default solvency role instead of fulfilling its main purpose of helping create an efficient industry structure and cover establishment costs. The insurance act includes provisions requiring that the insurer establish technical provisions (article 32), but these provisions are quite rudimentary and not based on sound accounting and actuarial principles. The law provides that the insurer shall make reserve provision in a sum similar to 40 percent of net premium and 25 percent of net insurance premium for marine insurance, plus a sum equal to 100 percent of outstanding clams, plus a sum proportionate to the amount of incurred but not reported claims. There is probably a translation mistake when the English version of the act requires a sum proportionate to the sum incurred but not reported claims to be included in the technical reserves. There should not be a deduction as indicated by the word proportionate when calculating the amount of incurred but not reported claims. The insurance act should be amended and in line with the more modern laws in Saudi Arabia and Egypt require actuarial input for long tail (i.e. liability) claims provisions. The reserves need to be determined by qualified individuals who can adjust for inadequate case estimates and incurred but not reported claims and life mathematical reserves require actuarial input. A good approach to developing a risk based supervisory model is to initially have a relatively simple but modern solvency requirements and first focus on ensuring that proper information is being provided. It is also essential to ensure that supervisor s analytical and intervention capacity is up to necessary standards. Developing markets that have taken this approach typically seek technical assistance in producing relevant operating manuals and in performing the initial full scope on site inspections. As it is likely that actuarial resources are thin in Iraq a more rules based approach could be taken to the setting of non life claims provisions, including IBNR (incurred but not reported losses) allowances. Long tail claims (an injury or other harm takes time to become known) are infrequent (not including MPTL Insurance) and reinsurer support could be sought here. The accounting, actuarial and auditing standards are not comprehensive, properly documented, transparent and consistent with international standards.

7 THE INSURANCE AND PENSION FUND SECTORS 65 Presently most of the institutions including financial sector are applying the Iraqi accounting standards (the Iraqi Unified Accounting Systems) that do not comply with international accounting and auditing standards. The Iraqi Unified Accounting System is completely different from IFRS and there is no description of the accounts. The insurance companies are not required to use the IFRS and with the possible exemption of the foreign own insurers do not apply the IFRS. The accounting and actuarial standards are not applied and disclosed in a manner that allows current and prospective policyholders, investors, intermediaries, creditors and supervisors to properly evaluate the financial condition of the insurers. Accountants, actuaries and auditors are generally not competent and experienced in complying with the IFRS standards. Some of the big international auditing firms such as E&Y are established in Baghdad, but in interviews with staff from these firms it was estimated that 99 percent of the local auditors are not skilled in applying the IFRS. The insurance act provides the supervisor with the power to take preventive and corrective measures if an insurer fails to operate in a manner that is consistent with sound business practices or regulatory requirements (articles 47 and 51). The act does, however, not allow the supervisor to take these measures in a timely fashion, but instead requires that the insurer has violated the law, regulations or instructions before preventive and corrective action can be taken (article 47 and 51). The insurance act should allow the supervisor to impose preventive and corrective measures at a much earlier stage when the chance for saving the insurer is better. An insurance industry association The Iraqi Insurance and Reinsurance Association is established but the insurance act explicitly states the association shall not have any regulatory role or responsibilities (Article 84). The World Bank s work in the region has shown that strong industry bodies, working closely with the supervisor and government can have a significant impact on public trust and awareness and in ensuring that the sector operates in an optimal fashion (i.e. properly balances competition and the public good). The Iraqi Insurance and Reinsurance Associations should be used more in building the insurance sector in Iraq. Good examples on the benefits of actively using the insurance industry association can be found in Bahrain and Morocco. The insurance act includes provisions to prevent money laundering (Article 35) but the provisions do not conform to the criteria specified by the Financial Action Task Force (FATF) recommendations. The insurance act does not require Customer Due Diligence; monitoring complex, unusual large transactions; and reporting suspicious of transactions to the Financial Intelligence Unit. The supervisor does not conduct any activity related to preventing money laundering or combating the financing of terrorism, such as requiring insurers and intermediaries, in general and in particular insurers and intermediaries offering life insurance products or other investment related insurance, to comply with anti money laundering and financing of terrorism measures.

8 66 REPUBLIC OF IRAQ FINANCIAL SECTOR REVIEW The insurance act should also address insurance fraud. The supervisor should require that insurers and intermediaries take the necessary measures to prevent, detect and remedy insurance fraud. B. The Pension Sector The pension sector in Iraq is now undergoing a transition from its former structure with separate public and private sector pension funds. This transition was recommended in an analysis prepared by the World Bank in 2005 and presented in the report: Pension in Iraq: Issues, General Guidelines for Reform, and Potential Fiscal Implications. A pension law was passed in January 2006 that would combine the two existing pension systems. Following criticism that the system promoted by the law was fiscally unsustainable, the law was subsequently amended and ratified in December 2007 as the Unified Pension Law. The Unified Pension Law stipulates the unification of public and private sector pension schemes and created the National Board of Pensions (NBP) and the State Pension Fund (SPF), to replace the old State Pension System The Unified Pension Law which is only 15 pages long, includes provisions regarding the mandatory amount of payments into the pension system, it identifies who are entitled to pension, and the amount of payment from the pension system. The Unified Pension Law does, however, not comply with the Principles of Private Pension Supervision that has been developed by The International Organization of Pension Supervisors (IOPS). The Principles of Pension Supervision that has come to be recognized as the international best practice standards anticipate that pension funds shall be supervised by a regulator, but the Unified Pension Law does not require supervision of the pension funds. The Unified Pension Law is also lacking in other important areas, such as providing a robust and safe legal structure for the pension fund requiring that the pension assets are held by an independent depositary and that the depositary conducts net asset valuations of the independent accounts on a regular basis. It is recommended that the National Board of Pension consider amending the pension fund law requiring the establishment and use of a depositary and the establishment and use of a pension supervisor with all the needed powers to properly supervise the pension funds. The World Bank has established a Pension Reform Implementation Support Technical Assistance (PRISTA) project that shall support the implementation of the Unified Pension Law. It is recommended that the PRISTA project supports in establishing a supervisory body for the pension funds and strengthen the legal structure and transparency of the pension funds.

9 CONCLUSIONS AND POLICY RECOMMENDATIONS 67 VIII. CONCLUSIONS AND POLICY RECOMMENDATIONS This review has faced unique challenges, including limited access to officials and market observers in the field and limited track record for implementation of rules and regulations. Nevertheless, in spite of these caveats, this assessment point clearly to a number of key issues that need to be addressed to underpin the development of Iraq s financial system. Administrative and technical challenges, the uncertain security situation and the complex political landscape add additional urgency to a well focused prioritization. Key issues to be addressed up front are the role of state banks and the creation of a level playing field for all banks. This will need to be followed by the early adoption of the proposed permanent Securities Law and steps to turn the insurance Diwan into an effective supervisor. Supporting ongoing efforts will be needed to address financial sector infrastructure, including supervision, credit registry, collateral framework, judicial systems, and accounting and auditing skills. A crucial step, also to signal seriousness of intent, is to clean up the balance sheet of Rafidain Bank and Rasheed Bank, which has been under discussion since Since more time may be required to clarify some of the disputed items on the balance sheet, the best approach will be to transfer disputed assets and liabilities of the two banks to a newly created asset/liability management company to permit the slimmed down Rafidain Bank and Rasheed Bank to focus on moving forward with their operational restructuring. The latter process is well formulated in the 2006 memorandum of understanding between the Ministry of