The critics claim that the U.S. system of requiring collateral security from non-U.S., unlicensed reinsurers is anti-competitive and discriminatory. Those with a vested interest in maintenance of the status quo argue that the reinsurance collateral security requirements are prudential measures that are in place for the protection of policy holders and the solvency of the ceding, primary insurance companies.

The European Union’s Reinsurance Directive still has not been implemented into national law in each of the EU Member States, but that regulatory measure has nonetheless emboldened reinsurance companies, reinsurance markets and financial regulators in Europe to push for federal regulation of insurance in the U.S. This is partly under the misguided assumption that federal regulation of insurance in the U.S., by way of an optional federal charter ("OFC") or otherwise, would somehow lead to the relaxing of the reinsurance collateral security requirements.

At the same time, larger insurance companies and some trade groups in the U.S. are interested in an OFC, because of the heavy administrative burden and expense of complying with insurance regulation in fifty-one jurisdictions. Neither the impetus from the U.S. insurance companies and trade groups, nor the added push from European regulators or vocal markets like Lloyd’s, have lead to enactment of the National Insurance Act, the SMART Act, or similar such legislation.

Such proposals themselves included the framework for the imposition of reinsurance collateral requirements , without telegraphing such prospects. Even the U.S. Treasury, in proposing the Office of Insurance Oversight (“OIO”), such that the U.S. Treasury could act as “the lead regulatory voice in the promotion of international insurance regulatory policy for the United States…” , recognizes that “[a] current contentious issue on the U.S.-E.U. reinsurance agenda relates to the state requirements for collateral posted by non-U.S. reinsurers.”

There is a safe-harbor-symmetry in those proposed pieces of legislation and the EU’s Reinsurance Directive, which has been enacted into national law in some EU Member States. That Directive allows EU Member States to impose “pledging of assets” requirements upon reinsurers from third countries, including the U.S..

Although the criticisms against the U.S. in the reinsurance collateral debate may not be warranted, the U.S. is proposing ways to relax collateral requirements to accommodate reinsurers domiciled outside the U.S. The methods by which it chooses to make such accommodations have themselves come under legal scrutiny, essentially because those methods build upon the continuation of the system of state regulation of insurance. The U.S., guided by the NAIC and the frontrunner state of New York, has embarked upon a regulatory reform framework that, for the NAIC, involves Mutual Recognition Agreements (“MRA’s”) and, at least with New York’s plan, Memoranda of Understanding (“MuO’s”) with insurance and financial services regulators outside the U.S.

Scope, focus and page limitations of this research article prohibit a full discussion of the separate treaty and constitutional law issues raised by these MRA’s and MuO’s, so this paper is limited to the analysis of the current collateral security requirements by the states in the U.S., and not these recent regulatory reforms.

With respect to the current reinsurance collateral security requirements, this article discusses legal issues in the context of the World Trade Organization (“WTO”) General Agreement on Trade in Services (“GATS”). The GATS treaty “…marks the first time that services have been covered by a global trade agreement. As a result, financial services liberalization now falls within the purview of the World Trade Organization.” Salient portions of GATS, for this analysis, are the most-favoured-nation (“MFN”) obligations; national treatment commitments; recognition requirements; and compensatory adjustments occasioned by disputed withdrawal of financial sector commitments. The very important role of the prudential carve-out, which the U.S. and other GATS Member States rely upon to justify disparate treatment, is critical to this analysis of GATS and reinsurance collateral security, and therefore receives a thorough analysis here.

Because it is difficult to escape the intersection of GATS, reinsurance reform and U.S. Constitutional law, this article at least makes a cursory discussion of the latest NAIC reinsurance regulatory reform framework and related complications, and then points the reader in the direction of some current sources of analysis on those emerging issues.

This article concludes that the actions of the various states in the U.S. are not in violation of GATS, because of the legitimate application of the prudential carve-out exception justifies any arguable technical violations. The article makes some practical observations of the U.S. regulatory system compared with other systems, and makes some recommendations on the wisdom of the U.S. retreating to historical reliance upon the Credit for Reinsurance Model Law.

Standards and practices in the field of reinsurance regulation and supervision vary widely among jurisdictions, with prudential approaches varying from direct supervision of reinsurers, to supervision through cedants, to little or no supervision at all. The supervision of reinsurance is experiencing a convergence in significant jurisdictions, including the European Union and the United States. Important topics include the anticipated single passport to Europe and, in the United States, the reinsurance collateral debate and the potential move toward an optional federal charter. Who is behind these issues, and do the issues share common ground?

The European Union (“E.U.”) is progressing toward a single, open market for reinsurance and a federalized system of reinsurance regulation. Important principles of mutual recognition and at least minimal harmonization of rules are some of the important foundations being implemented to make that system work. If and when the Reinsurance Directive is implemented, it will result in the complete elimination of reinsurance collateral requirements among E.U. Member States, although E.U. Member States will still be able to impose such requirements on reinsurers from countries outside the E.U.

Some E.U. spokespersons have suggested that the United States (“U.S.”) should learn from the E.U.’s experience and adopt a federal system of reinsurance regulation in lieu of the current state-based system of regulation. These commentators suggest there is a likely nexus between a possible federal system of regulation in the U.S. and the eventual abolishment of U.S. reinsurance collateral requirements.

In the U.S., collateral from unauthorized reinsurers satisfies “credit for reinsurance” regulations of the insurance departments in the various states. This places reinsurers that are required to post collateral at a competitive disadvantage compared to those that are not required to post collateral, leading to capacity issues, leaving ceding insurers fewer reinsurance options.

This paper surveys the reinsurance regulatory schemes of the E.U. and the U.S. For the law of the E.U., the article discusses the Reinsurance Directive as it pertains to the ability of E.U. insurers to require the “pledging of assets” by third-country reinsurers, including those domiciled in the U.S. The analysis of law in the U.S. will include the current law of New York State, followed by a discussion of the regulatory proposal by New York State, intended to soften the collateral requirements, lead to mutual recognition, and set the ground work for minimal harmonization of rules among unauthorized reinsurers and New York State.

The balance of the article appeals to the historian and scholar of insurance law. Lloyd’s is a company with its head office in the U.K., and the U.K. is a Member State of the E.U. Because Lloyd’s is a strong proponent of elimination of collateral requirements in the U.S, this section reviews the failure of the old “Lloyd’s of London,” along with legacy issues that have concerned U.S. insurance regulators. The new “Lloyd’s” is then studied in view of its current self-regulation initiatives, its governmental oversight from the nascent, yet impressive Financial Services Authority, and the treatment given it by the rating agencies.

The article concludes with an historical overview of the arguments for and against an optional federal charter in the U.S., with an analysis tailored to the purpose of this paper, which is refuting the unfounded notion that an optional federal charter would herald the elimination of reinsurance collateral requirements.

The European Union’s Reinsurance Directive still has not been implemented into national law in each of the EU Member States, but that regulatory measure has nonetheless emboldened financial regulators in Europe to push for federal regulation of insurance in the U.S. This is under the misguided assumption that federal regulation of insurance in the U.S., by way of an optional federal charter ("OFC") or otherwise, would somehow lead to the scrapping of the reinsurance collateral requirements.

At the same time, larger insurance companies and some trade groups in the U.S. are interested in an OFC, because of the heavy administrative burden and expense of complying with insurance regulation in fifty-one jurisdictions. However, neither the impetus from the U.S. insurance companies and trade groups, nor the added push from European regulators, have lead to a reintroduction of the National Insurance Act, the SMART Act, or similar such legislation. Such proposals themselves included the framework for the imposition of reinsurance collateral requirements, without telegraphing such prospects. There is symmetry to such safe harbors in those proposed pieces of legislation and the EU’s Reinsurance Directive, which allows EU Member States to impose “pledging of assets” requirements upon reinsurers from third countries.

The year 2008 did not see the same gusto from European regulators for an OFC. Rather, the U.S., guided by the NAIC and the frontrunner states of New York and then Florida, has embarked upon another means to achieve the goal of relaxation of reinsurance collateral requirements. This article is a brief overview of reinsurance collateral requirements in the context of the World Trade Organization ("WTO") General Agreement on Trade in Services ("GATS") treaty.

Although the criticisms against the U.S. in the reinsurance collateral debate may not be warranted, the U.S. is doing what it can to accommodate foreign reinsurers, by relaxing collateral requirements. The methods by which it chooses to make such accommodations have themselves come under fire, essentially because those methods are based upon the continuation of the state-based system of insurance regulation.

This presentation traces the history of the reinsurance collateral debate and then discusses legal issues with respect to the World Trade Organization ("WTO") and the General Agreement on Trade in Services ("GATS"), plus the intersection of GATS and the U.S. Constitutional issues.

The presentation concludes that the actions of the various states in the U.S. are not in violation of GATS or most U.S. Constitutional issues, because of the prudential carve-out exception under GATS and which applies to international treaties and agreements in general. The presentation makes recommendations for reforms to avoid so as not to run afoul of the U.S. Constitution, and makes some practical observations on retreating to the basics of the Credit For Reinsurance Model Law.