An alternative approach to manage mortality catastrophe risks under Solvency II

The Solvency II Directive, in its standard formula, proposes that a permanent 15% increase should be applied to mortality rates for covering normal deviations of mortality and that the rates should be increased uniformly over just the following year by 1.5‰ to cover catastrophic mortality deviations. The latter increase means disproportionally raising the rates for some ages, especially young people, with hardly any modification for others. In this paper we show, using data from Spain, the inadequacy of these loadings and this timing (for 1 year only) in protecting against a pandemic. As a solution, we propose a new methodology that allows the catastrophic risk of life to be modelled/calibrated through two parameters: a parameter to mainly cover catastrophic risks linked to specific extreme disasters (such as earthquakes, hurricanes or nuclear explosions) and another parameter to mainly cover catastrophic risks linked to pandemics. After establishing the relationships between these parameters in three different scenarios where the aggregate levels of risk/mortality associated with the Solvency II catastrophic shock are kept constant, we study its effect in terms of Solvency Capital Requirements (SCR) on a real life insurance portfolio. The results obtained show that the new methodology leads to SCRs, over total BEL, less dependent on the age structure of the portfolio.