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relationship between capital requirement and capital model

S

Smith

Member
from capital requirement point of view, there are two measures, i.e. solvency / regulatory capital and economic capital requirement,
from the capital model point of view, there are two kinds of model, i.e. standard and internal model.
my question is what the relationship between the two measures and the two models?
from my understanding, the relationship might be summarised as below, am I right?
1) solvency / regulatory capital requirement: can be generated by either standard model or internal model;
2) economic capital requirement: can only be generated by internal model;
3) standard capital model: can only be used for generating solvency / regulatory capital requirement;
4) internal capital model: can be used for either generating solvency / regulatory capital requirement or economic capital requirement.
or in another word, use a table, the relationship might be summarised as below:

upload_2020-2-28_22-50-31.png
 
Whilst this is along the right lines, you might be over-analysing things?

Regulatory capital requirements = what the regulator requires the insurance company to hold. So this is calculated however the regulator tells the company to calculate it. Under some regulatory jurisdictions, such as Solvency II, there is a choice: either using a standard formula (which is provided by the regulator) or using the company's own internal model. But this won't be the case for all jurisdictions.

Economic capital requirements = what the insurance company itself believes it should hold, in order to meet its strategic objectives. So this would have to be calculated using the company's own (i.e. internal) model.
 
Hi, I have a followup question on it.
Is it possible that the capital requirement on regulatory basis and economic basis be same?
 
I guess so, although that wouldn't typically be the case as they are produced for different purposes. However, for example, regulatory requirements under Pillar 2 of Solvency II (the ORSA) are effectively economic capital requirements.
 
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