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The European Insurance and Occupational Pensions Authority (EIOPA) is launching today its 2024 stress test in which it subjects insurers in the European Economic Area to a hypothetical scenario of severe but plausible adverse developments in financial and economic conditions.
Objective
While EIOPA’s 2024 stress test is not a pass or fail exercise, it has a mostly microprudential orientation. The goal is primarily to assess the resilience of the participants to the adverse scenario whose shocks go beyond the regular resilience required under Solvency II and provide supervisors with information on whether these insurers are able to withstand severe shocks. EIOPA will also analyze aggregate results to assess potential sector-wide vulnerabilities. This microprudential approach will enable European and national supervisors to issue recommendations to the industry as a whole, and, where relevant, to discuss potential follow-up actions with individual insurers, to improve their resilience.
The microprudential assessment is complemented by the estimation of potential spillover from the insurance sector to other parts of the financial system, triggered by reactions to the prescribed shocks.
Scenario
The 2024 scenario, developed by EIOPA in close cooperation with the European Systemic Risk Board, presumes a renewed build-up or continuation of geopolitical tensions together with a broad range of knock-on effects. As a result of high tensions, the narrative envisages a resurgence of widespread supply-chain disruptions, leading to sluggish growth and reigniting inflationary pressures.
The ripple effects include a re-evaluation of interest rate expectations marked by a surge in short-term market rates and more muted increases in longer term yields, further steepening an already inverted yield curve. The resulting tightening of financing conditions, coupled with subdued growth, is poised to dampen corporate profitability, widen credit spreads, and adversely affect asset classes across the board. The high level of government bond yields, also driven by sustained high risk-free rates, would tighten financing conditions for public spending. The pandemic-induced elevated level of government debt and the need for mitigating measures to support the real economy in a downturn would fuel concerns about sovereign debt sustainability, leading to a further heterogenous increase in government bond rates.