Regulatory challenges in the Levant and GCC insurance markets by Fadi B. Nader, Levant Law Practice The insurance regulatory environment in the Levant and Gulf Cooperation Council (GCC) region has significantly evolved during the last decade. Serious efforts were deployed to introduce adequate supervisory rules and to train local talents who will undertake the task of implementing sound regulatory practices. Across the region, reforms in capital market supervision, corporate governance and legal infrastructure have accelerated rapidly in the last few years. These reforms will reflect positively on the insurance sector and will accelerate the path of cross-border consolidations, mergers and acquisitions in the industry. At a time when the global economy is attempting to recover from a series of financial crises, the world insurance industry is facing unprecedented challenges represented by a wave of natural catastrophes, dangerous political risks and the heavy burden of complying with stringent market regulations. In the Levant and GCC region (comprising Bahrain, Iraq, Jordan, Kuwait, Lebanon, Oman, Qatar, United Arab Emirates, Saudi Arabia and Syria), these challenges are becoming more real, as political and war risks are on the rise in the wake of the latest regional uprisings, at a time when insurance regulators of this region are working towards bringing the industry s supervisory rules and monitoring standards to higher levels. The development of a sound, modern and open insurance market has also proved to be an essential component of the financial reforms and the development of capital markets in this region. As the Takaful market is expected to grow nearly 15% annually in the next five to seven years and the insurance penetration rate to increase from 1% to 3% in the same period, the overall insurance market (conventional and Takaful) in the region will be at least 10-times larger in the next 10 years. Regulatory developments With the introduction of the long awaited cooperative insurance regulations in the Kingdom of Saudi Arabia in 2003, the serious insurance legislative and regulatory reforms carried out in each of Jordan, Bahrain, the UAE, Oman and Qatar, the opening of the Iraqi and Syrian insurance markets to foreign investors and the consistent attempts to introduce regulatory reforms in Lebanon and Kuwait, the regional insurance scene will inevitably witness a wave of cross-border consolidations, mergers and acquisitions. This will certainly prompt the need for insurance regulators to harmonise their rules and for insurance companies operating in these markets to reconsider their corporate governance structures and embrace themselves for the new changes. As many of the big regional players in the insurance industry operate across local borders and many foreign insurers consider the region as a single market, there is an increasing need to modernise the insurance regulatory regimes in the region and to apply best industry practices without falling in the trap of over-regulations. Low market penetration Historically, insurance penetration rate in the Levant & GCC markets, both life and general has been significantly below the levels reached in developed economies with statistics indicating that it only forms an average of 1% of gross domestic product (GDP). This is in contrast to the economic prosperity of this region particularly in the GCC countries where the GDP per capita is among the highest worldwide. Insurance awareness was also particularly weak in the region due to many religious, economic and cultural factors. Islam considers insurance speculative, as it involves risk assessment and relates to uncertain events. Under Islamic Shariah, any form of insurance associated with Riba (interest), Maysar (gambling) and Gharar (uncertainty) is absolutely prohibited. This has prompted many Muslims particularly in the GCC countries to avoid buying into conventional insurance products or participating in insurance activities. However, with the promulgation of the cooperative insurance regulations in the Kingdom of Saudi Arabia, the insurance business in one of the largest markets in the Levant & GCC region became a well accepted and regulated activity. This development had a positive effect on the sector and encouraged many institutional and individual investors 61
to participate in highly capitalised insurance joint ventures in the Kingdom. Serious reforms across the region Under Saudi regulations, the Saudi Arabian Monetary Agency (SAMA) was entrusted with the role of regulating and supervising the insurance sector. By imposing some relatively high capital requirements (minimum of SR100m or US$27m) and difficult listing conditions (25%-40% of the insurance company s capital should be offered to the public through an IPO), insurance companies operating in the Saudi market were prompted to comply with stringent licensing requirements and to observe risk based solvency regulations modelled on the basis of UK insurance market practices. Insurance companies in Saudi Arabia are now required to maintain regular statutory reporting, develop adequate internal controls and observe proper corporate governance rules as these companies are under the tight scrutiny of both the insurance regulator (SAMA) and the Capital Market Authority who constantly monitors listed companies to ensure transparency and compliance with strict market conduct. In Iraq, the Insurance Business Regulation Act of 2005, also inspired by UK and European regulations, has established an independent Insurance Authority under the name of Iraqi Insurance Diwan (IID) who is entrusted with the regulation and supervision of the insurance sector. IID is an independent body whose role is to define the overall policy and procedures for the regulation of the insurance industry in Iraq. It sets the main standards that insurers and insurance professionals should meet, and is empowered to sanction companies and individuals who fail to meet these requirements. The Syrian insurance market which was monopolised since 1961 by a state owned insurer, the Syrian Insurance Company, who had an exclusive right to cover all classes of risks in Syria, was privatised in 2005 with the introduction of a new insurance law. The new legislation allowed for the first time insurance and reinsurance companies to be incorporated as private joint stock companies with relatively high capital requirements (US$13.5m for general lines; US$16.3m for general and life lines and US$23m for a reinsurance licence). This has encouraged many Lebanese and Gulf based insurers to team up with Syrian investors and established local insurance subsidiaries in this new market. Jordan had enacted a modern insurance law in 1999 and had since been able to strengthen its regulatory supervision of the sector through an independent regulator who introduced landmark reforms. Jordan s Insurance Commission is an independent authority in terms of finance and management and was able to establish itself as a serious regulator of the insurance industry. Lebanon s insurance sector dates back to the 1940s with many Lebanese incorporated insurance companies expanding in the region and playing a leading role in the development of the insurance knowhow and in transferring professional talents to manage local and multinational insurance operations in the GCC markets. Around 70 companies are currently licensed by the Insurance Control Commission at the Lebanese Ministry of Economy and Trade, with a number of leading companies operating through direct branches or subsidiaries throughout the region. The 1968 Lebanese Insurance Law was revamped in 1999 and a new draft law, based on International Association of Insurance Supervisors (IAIS) approved core principles, is still pending parliamentary approval since 2005. The proposed Lebanese legislation sets out a progressive and comprehensive framework for the insurance industry from the perspective of both insurer s solvency and consumer s protection. The draft law covers corporate governance, insurer licensing requirements, investments, coverage terms, auditor and actuary requirements, mergers and acquisitions, agents and brokers licensing giving the Insurance Control Commission an efficient supervisory intervention and sanctioning power. In Oman, the supervision of the insurance sector was transferred in 2004 from the Ministry of Commerce and Industry to the Capital Market Authority (CMA) who has issued, since taking over, few progressive regulations namely (i) the Code of Corporate Governance for Insurance Companies; and (ii) the Code of Practice for Insurance Business. The CMA also increased the solvency margin for insurance companies. The Central Bank of Oman intervened in 2001 to regulate bancassurance activities, authorising licensed banks to collaborate with insurance companies, brokers and agents to sell insurance products, subject to certain conditions and with its prior approval. Disparity in regulatory regimes Despite important efforts being made towards opening and modernising the insurance markets of the region, foreign ownership in insurance companies is still restricted in a few important markets. Kuwait and Qatar still prohibit foreign shareholding in local insurance companies and the Saudi Government limits such participation to 49%, while UAE law prevents foreigners from owning more than 25% in national insurance companies. This cap is increased to 70% in Oman and to 40% in Syria. 62
On the other hand, no barrier on foreign ownership of insurance companies currently exists in Bahrain, Lebanon, Jordan, Iraq, Qatar (for companies established under the Qatar Financial Centre QFC) and the UAE (for companies established under the Dubai International Financial Centre DIFC). However, disparity in the scope of the regulations across the region is clearly noticeable, as Kuwait and Syria still require insurers to maintain their full technical reserves onshore; while such requirement is being partially relaxed in the UAE, Lebanon, Bahrain, Oman and Saudi Arabia at a rate varying between 40% and 60%. This requirement presents foreign insurance companies in particular with a serious problem, when issuing a policy in foreign currency as locally available investment instruments are mostly denominated in local currencies which might create a mismatch between the companies liabilities and the value of their invested reserves. In Oman, the regulations impose a 25% compulsory cession on all insurance policies issued in the country; whereas, the Saudi insurance regulations require insurers to retain 30% of insurance premiums and have a further 30% reinsured within Saudi Arabia; although, these compulsory retention and cession restrictions are not being enforced by SAMA for the time being. Different regulatory approach The regulatory approach in the region also differs from one country to another, even within the same GCC group of countries. Therefore, in each of Bahrain, Saudi Arabia, Oman, UAE (DIFC) and Qatar, financial regulation and supervision for banks and insurance companies is concentrated into one unified regulatory agency. While in Jordan, Iraq, Syria, Kuwait, Lebanon and the UAE (non-difc), such supervision is still organised around various governmental agencies that have distinct and separate responsibilities for each of the insurance, banking and capital market sectors. The region s experience with a single regulator was so far encouraging as it had showed the advantage of drawing on the skills and expertise of various departments within the same agency to handle supervisory issues related to different segments of the financial sector. This has enabled the regulator to apply and benefit from the concept of the economies of scale within the same agency. Moreover, by concentrating various functional areas of regulation in one agency, the financial regulator was able to create synergies between its own resources and to use the know-how and experience of its specialists in an efficient manner. This was particularly true when regulated firms were engaged in interlinked activities, such as insurance and banking businesses, or what is commonly known as bancassurance. The one regulator approach also reduces the competitive inequalities imposed on regulated firms through inconsistent rules usually applied by multiple specialist regulators. Moreover, such approach helps in the avoidance of problems of duplication, overlap and gaps that can arise in a regime based upon several regulatory agencies. It was proven in practice that a unified regulator, with a clear set of responsibilities, can be more efficient in regulating the financial industry as a whole and in setting transparent rules and regulations. In the same token, regulated firms can be held more accountable under a single regulatory agency as it will be more difficult for them to ignore the rules imposed by the regulator under the pretext that a specialist regulator applies different measures or follows different criteria. For countries where the specialist regulatory model was followed, the autonomous regulator was able to concentrate on helping each financial sector in updating, revising and rationalising its services and its market conduct requirements. A dedicated and focused insurance regulator is well positioned to monitor the insurance companies performance and to understand the industry s needs, while a unified regulator might not have a clear focus on the objectives and rationale of regulations needed for each sector. On the other hand, a unified regulatory model would risk creating an overly bureaucratic single regulator with excessive and concentrated powers. This might hinder the regulator s ability to respond, in a timely and efficient manner, to changes affecting a particular sector and to provide the necessary regulatory remedies. In some countries of the region, insurance companies who are submitted to the supervision of a unified regulator feel that they are at a disadvantage, when it comes to issuing new directives and following up their implementation, as banks and financial institutions are usually given priority in dealing with their issues and issuing the required regulations. Harmonisation attempts As the insurance industry in the Levant and GCC region is expanding across local borders, the need to reduce the gap between market regulations of these different markets, in terms of sophistication and market conduct requirements, becomes of a paramount importance. In this perspective, there were some previous and serious attempts at GCC countries level to introduce a unified set of insurance regulations; however, such attempts were temporarily suspended as local 64
regulators failed to agree on some crucial issues such as solvency margins, capital requirements, foreign ownership, asset-liability matching, licensing of branches and scope of regulatory supervision. Therefore, local insurance regulators in the Levant and GCC region are urged to interact with each other and to engage various market players (insurers, reinsurers, intermediaries, actuaries, lawyers and auditors) in an open dialogue to ensure a harmonious regulatory approach that will ultimately benefit the consumer, provide an incentive to investors to enter into cross-border insurance ventures and that will certainly encourage multinational insurers to transfer their knowhow to the region. Promising future Regulators in the region have the advantage of learning from the industry s best practices applied by other regulators in developed markets to try and strike an appropriate balance between sound protection techniques on one hand and the need to encourage market competitiveness and efficiency on the other. In implementing solid corporate governance rules, insurance companies can also contribute towards establishing an auto supervision approach by ensuring that their insurance operations are managed on a sound and professional basis. A transparent process in which the private sector can participate in shaping new regulatory reforms and in harmonising market conduct practices will indisputably contribute towards the development of the insurance market in the Levant and GCC region which will present local and foreign investors with an added incentive to enter into this lucrative and important sector of the economy. Author: Fadi B. Nader, Partner Levant Law Practice 1-2 Floors, Starco Centre, Block B Omar Daouk St., Beirut Lebanon Tel: +961 (1) 360 136 Fax: +961 (1) 373 577 Email: fadi.nader@levantlp.com Web: www.levantlp.com 65