IAA News Release:
The International Actuarial Association is pleased to announce the completion of the paper Note on the Use of Internal Models for Risk and Capital Management Purposes by the Solvency Subcommittee of the Insurance Regulation Committee.
This paper provides educational material for those responsible for constructing, using and approving the use of models to assess and manage risk and capital within insurers. This material is also useful to those who rely upon the information derived from models, as an aid to understanding the derivation, uses and limitations of this information.
Internal models are primarily relied upon by boards of directors and senior management for strategic planning, regular monitoring of risk and managing an insurer’s corporate capital. Internal models are also coming into use for determining regulatory required capital, usually subject to supervisory approval based upon satisfaction of specific conditions required by the supervisor.
The use of models often brings the challenge of dealing with the “black box” stigma. Lack of transparency can result in either an unjustified reliance on output from the model or complete scepticism of the model and rejection of valid results. Thus, this paper identifies elements needed to discipline the design, construction, validation and use of internal models as well as the communication of results. The application of these elements will help to indicate the extent to which increased reliance can be placed on the model’s results, its limits and its uses.
IAA President Paul Thornton states, “The publication of this paper on internal models contributes to the rapidly growing area of the development of internal models in risk and capital management. Those who are users of the results of internal models should also find the paper helpful.”