In chapter 20, page 7 onwards, the notes discuss methods of allocating capital to classes of business. Two methods are described - the marginal capital method and the Shapley method. The notes then say at the top of page 9 "There is not necessarily one method that is best suited in all cases. Typically we would compare the results from several methods of allocation." Then at the bottom of page 9 a third method seems to be described - "we will normally allocate economic capital to each class of business in proportion to its contribution to the risk metric on a standalone basis." This third method is asserted to be the "normal" allocation method, but this seems to contradict what was said earlier? (and why wasn't this third method included in the same section as the first 2 methods above? It seems to be treated separately)
And as a further query to this, the summary for chapter 20 on page 21 shows four methods of allocating capital (the above three and using a lower percentile). However this is shown as a part of assessing solvency capital requirements (SCR). Aren't these methos to allocate capital rather than assessing SCR?
The two-methods listed on page 7 that you refer to are proceeded by the statement that "Other methodologies used for allocating the capital held between classes of business include". This is therefore not intended to be an exhaustive list. The method described on Page 9 is about allocating Economic Capital and not about allocating total capital (=capital held). The percentile method is also described on Page 7 . The bullet point list is proceeded by "we can allocate capital using", so agreed that these are methods of allocating capital.
Thanks Darren. Wouldn't any of the 4 methods described be suitable for allocating either total capital or economic capital to a class/product/policy level? Dan
Hi Dan Yes in theory you could use any of the 4 methods to allocate economic or total capital but as the notes say on page 9, economic capital is normally allocated to each class of business in proportion to its contribution to the risk metric on a standalone basis.
