Systemic Risk and Regulation: The Misguided Case of Insurance SIFIs

Abstract

This paper provides an overview of research and debate over whether insurance poses systemic risk, with a focus on U.S. life insurance. It considers the Financial Stability Oversight Council (FSOC) process for designating nonbank financial institutions as systemically important and subject to enhanced supervision by the Federal Reserve under Section 113 of the Dodd-Frank Act, the FSOC’s rationales for designating AIG, Prudential, and MetLife, and MetLife’s challenge. The paper highlights the adverse consequences of designating individual insurance entities for enhanced supervision, which favor an alternative activities-based approach to addressing potential systemic risk.

The principal conclusions are:

(1) there is no compelling evidence that any life insurer poses a threat to the financial stability of the United States,

(2) the Section 113 and FSOC regime of designating individual insurance organizations as subject to enhanced supervision is flawed in concept and execution, and

(3) it would be preferable to move towards an activities-based approach to systemic risk monitoring and supervision.

Keywords: systemic risk, Dodd-Frank Act, Financial Stability Oversight Council, systemically important financial institution, insurance

JEL Classification: G22, G28, G32