Economic Capital And Its Feasibility Of Application In Domestic Insurance Company

As the financial environment becomes more complicated, the insurance products become more diversified and the management becomes more flexible, changeable risk and its management becomes the primary task in insurers’ operations and managements. It is far from enough for enterprises assessing risks from the perspective of single business units and comprehensive risk management has become a trend. Economic capital comes from the latest theory and practical experience of risk management field and accords with regulators’requirements. After its first time usage in risk and credit department in the bank of developed country, economic capital has been increasingly used in different industries and sectors as its theory and practice becoming more complete. Risks become more complex and common today, we demanding higher accuracy and efficiency about capital measurement. The theory about the correlations between risks and the diversification effects have been researched more and more deeply. Economic capital becomes the development trend of risk management because of the development of capital regulation and international accounting standards.As insurance is a special industry that operating risks, efficient risk management is not only the necessary condition of safe operation, but also the premise of creating and adding its value. Insurance in our country is a "late start" industry and we have many disadvantages in product management, capital management and risk management compared with developed countries. How to effectively manage risk has been main concern of insurance company. It is only recently that economic capital was introduced to insurance company of China. Assessing, measure and manage all of the risks that insurance companies facing with economic capital, on one hand we can solve the problems about regulatory. On the other hand we can strengthen insurance company’s product management, risk management and capital management, improve the efficiency of capital allocation and performance evaluation and finally make whole insurance industry to develop healthily.This paper tries to begin with the study of the theory about economic capital both at home and abroad and then probes into the significance and developing trends of economic capital in insurance companies in China. After the analysis of economic capital’s contents this paper explained the role of economic capital from a perspective of solvency and its regulation and compared EC with both regulatory capital and accounting capital. The implementation of EC should go in line with SolvencyⅡand IFRS, they also follow the same trend. Since EC has the vital role in risk measurement, capital allocation and performance management, insurance industry should gradually introduce EC framework based on the learning of abroad advanced experience. We would inevitably meet lots of problems in the process of EC implementation because of the economic environment and special characteristics of domestic insurance industry. Go to identify potential problems and overcome them,then try to promote the EC implementation in domestic insurance company is the final purpose of this paper.According to the ideas above, this paper analyzed and researched both the theory and the practical application of EC. The whole paper is divided into six chapters and the main content abstracts for each chapter are as follows:Chapter one is introduction. This chapter puts forward the purpose and significance of the research and gives a brief introduction of the research situation both in domestic and abroad as well as the development trend of economic capital. The main contents, research methods, shortcomings of this paper and possible innovations are also mentioned.Chapter two is the understanding of the essence of economic capital, theory system and framework related to economic capital are included. The definition of economic capital and comparison between EC and regulatory capital and accounting capital are given. This chapter understands the important role of EC to insurance company emphatically from the perspective of solvency and solvency supervision. After a brief analysis of Solvency II, international financial reporting standard (IFRS) phase II as well as the new accounting standards capital of China, this chapter points out that EC will develop together with insurance regulatory and accounting standards.Chapter three is the implementation of EC in insurance company. Firstly there is a EC application framework in insurance company. Secondly, this chapter classifies the main risks faced by insurance company and points out how to measure each of them with different methods. We also have to aggregate all of them based on the consideration of correlations between risks and diversification effect. Finally this chapter mentions how to allocate EC and manage performance from the aspect of risk adjusted return on capital (RAROC).Chapter four illustrates the feasibility and meanings of EC application in insurance companies in China. From risk management, product pricing, performance measurement and many other aspects, the implementation of EC in domestic insurance company is not only a necessity, but also has its significant meaning.Chapter five points out the difficulties in implementation of EC and provides the suggestions to deal with them. The operation of domestic insurance company has its own special characteristics, including internal factors and external environment. As a result, application of EC in China is challenging. This chapter proposes the relevant countermeasures and suggestions based on the analysis of the difficulties.Chapter six is the summary of the paper. A vigorous effort from domestic insurance company to put economic capital theory and practice into business management process is required by the scientific, steady and long-term development.