Case Application Ashley is an actuary who is employed by the Nebraska Department

Question

Case Application Ashley is an actuary who is employed by the Nebraska Department of Insurance. Her duties include monitoring the financial position of insurance companies doing business in Nebraska. Based on an analysis of annual financial statements that insurers are required to submit, she discovered that Mutual Life Insurance has a risk-based capital ratio of 75 percent. Based on this information, answer the following questions: a. What is the purpose of requiring insurers to meet risk-based capital requirements? b. What regulatory action, if any, should the Nebraska Department of Insurance take with respect to Mutual Life Insurance? c. Would your answer to part (b) Change if the risk-based capital ratio for Mutual Life Insurance fell to 30 percent? Explain your answer. d. Mutual Life Insurance has 25 percent of its assets invested in common stocks. Assume the stocks are sold, and the proceeds are invested in U.S. government bonds. What effect, if any, will this investment change have on the risk-based capital ratio of Mutual Life Insurance? Explain your answer.

Explanation / Answer

a)

This is important to an insurer to keep minimum amount of capital that is appropriate to run the insurance business operation Nebraska Department of insurance limit the amount of risk a company can take. If insurance company take higher risk then they have chance to earn more capital. More capital prevents company from insolvency.

b)

Nebraska Department of insurance have to calculate minimum regulatory capital required by the mutual life insurance. According to that rearrange their risk based capital ratio. That minimize the risk based capital and chances of insolvency.

c)

Initially mutual life insurance has 75% of risk based capital ratio. This shows company is taking more risk. Sudden change to 30% of risk based capital ratio can increase the chances of insolvency due to less capital available with the company. Or it can effect insurers in return.

d)

As company invest more in bonds that reduce their chance of earning more capital and reduce risk based capital ratio till 5%. Company sell 25% of its stock and purchase government bond that can affect company’s total profit and on investors return.

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