Zeti Akhtar Aziz: Moving towards a more competitive market
Keynote address by Dr Zeti Akhtar Aziz, Governor of the Central Bank of Malaysia, at the 2005
dialogue session with insurers and takaful operators, Kuala Lumpur, 9 August 2005.
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The annual Dialogue between Bank Negara Malaysia with insurers and takaful operators is held to
discuss issues confronting the insurance and takaful industries, major policy initiatives by Bank
Negara Malaysia as well as current economic and financial developments affecting the industry. This
year's dialogue is being held on 9 and 10 August and attended by the Chairmen, members of the
Board and Chief Executive Officers of insurers, takaful operators and bank holding companies.
Themed "Moving Towards a More Competitive Market", the dialogue this year will provide a platform
for insurers and takaful operators to discuss strategic issues relating to the challenges of the more
competitive and rapidly changing financial landscape. The keynote address delivered by the Governor,
Bank Negara Malaysia at the opening of the Dialogue session is attached.
The Malaysian economic and financial landscape continues to be dramatically transformed. As this
transition process gains momentum, the key issues confronting the insurance and takaful industries
today are: defining effective growth strategies in an increasingly borderless world; sustaining
confidence in the face of increased demands for greater transparency; responding to the challenges of
regulatory and accounting changes; and managing risk in an increasingly complex and volatile
environment. These challenges have spawned multi-faceted reforms, involving changes in business
models, risk orientations, operating practices and in the interface with customers. It is this
modernisation process of the insurance and takaful industries that will take it to new heights, bringing
with it widespread and far reaching implications on the overall financial system and the economy.
It is my pleasure to welcome you to this year's dialogue session between Bank Negara Malaysia and
the insurance and takaful industries to discuss these issues in greater depth within our domestic
context, and to consider the necessary actions that need to be taken under increasingly more
challenging conditions. The theme for this year's dialogue: "Moving Towards a More Competitive
Market", will focus on the challenges of pricing deregulation, product transparency, operating cost
efficiencies and commission disclosures. The issues revolving around operating practices and the
interface with customers also needs to be viewed in terms of the broader dimensions of public
confidence, transparency and risk management.
The dialogue this year is also based on a new format focused on issues with long-term strategic
implications that need to be addressed in the current environment. It is designed to encourage
deliberations from the different perspectives between industry participants and Bank Negara Malaysia.
The dialogue will also serve as a platform to reflect on recent economic and financial developments
and the major policy initiatives by Bank Negara Malaysia. Allow me to take this opportunity to share
some thoughts with you in these areas.
The outlook for the Malaysian economy continues to remain favourable, despite some signs of
moderating growth in the global economy arising from the higher oil prices. Malaysia has had a track
record of solid and steady growth for a number of years now. The diversified economic structure and
sound macroeconomic fundamentals have been important in supporting this trend. Of importance is
that this growth is private sector driven. While price pressures have been contained by improvements
in labour productivity and capacity expansion, domestic inflation has begun to edge upwards, largely
due to cost-related factors. In balancing these trends, monetary policy has continued to remain
supportive of growth. Growth in Asia has also remained strong with mutually reinforcing effects for
regional economies, including Malaysia, as regional integration continues to intensify.
The global environment, however, is clouded by uncertainties amid the persistence of global
imbalances. The United States continues to record large deficits in its external accounts. There is
significant discussion in the global community on how these imbalances may be unwound. The
consensus, however, is clear that the adjustment should be orderly. There has however, been an over
focus on realignment of exchange rates to facilitate this adjustment. But this may risk destabilizing
adjustments. Ultimately, the structural imbalances have to be addressed by some combination of
adjustments in demand, prices and exchange rates. In particular, the rebalancing of global growth can
be expected to be a major factor contributing to an orderly adjustment to these imbalances. Indeed, it
would require more than just adjustments in exchange rates. The nature and breadth of the
adjustments will be important to achieve a long-term solution.
With its young workforce, growing productivity, competitive and dynamic economies, there is great
potential for the Asian economies to contribute towards the re-balancing of global growth. With rising
income levels in regional economies, particularly among the growing middle income group in China,
India and the ASEAN economies, there is potential for an expansion of demand within the region. The
rebalancing of global growth across the world will eventually contribute towards reducing the prevailing
imbalances. Malaysia's own agility to absorb and respond to the external and domestic challenges has
allowed us to efficiently shift resources to new areas of growth, to new areas of comparative
advantage and thus, sustain our long-term prospects. Going forward, Malaysia's economic policy will
therefore continue to focus on ensuring that the economy's flexibility and resilience is sustained.
With the strengthening of the economy, the financial system and our fundamentals, the opportunity
has been taken to deregulate and liberalise the environment further. The most recent policy initiative in
this direction has been the shift in the exchange rate regime to a managed float. Under this regime,
exchange rate stability will continue to be a primary objective of exchange rate policy. Malaysia is a
trading economy that is highly integrated with the world economy, and in this context, a stable
exchange rate environment continues to be important. With changes in the international economic and
financial environment, the move towards a managed float was important to enable Malaysia to
maintain a stable exchange rate against its major trading partners. Under this arrangement, Bank
Negara Malaysia will now monitor the exchange rate against a currency basket to ensure it remains
close to fair value. The transition to the new system has been orderly, with transactions mainly
reflecting trade and foreign direct investment as well as portfolio investment activities.
As providers of long-term capital and efficient risk transfer solutions for productive economic activity,
the insurance and takaful sectors play an important role in supporting the economic transformation
process. Over the years, that role has increased in prominence with the impressive growth achieved
by the industry. In 2005, the insurance and takaful industries have continued to demonstrate resilience
and strong performance despite challenging investment and underwriting conditions. Premiums and
contributions have continued to expand at double digit growth rates in the first half of 2005, with the
general sector rebounding strongly after two consecutive years of slow growth. The underlying
fundamentals for sustainable growth have also strengthened with stronger solvency positions reported
by the majority of players, continued profitability and improved underwriting discipline.
The growth has also been accompanied by enhancements to the competitive structure, improvements
in innovation and a greater degree of differentiation in the market, offering consumers a wider range of
products and services. In particular, the advent of bancassurance and bancatakaful has seen more
players packaging life insurance and family takaful with innovative investment options that incorporate
banking product features. Today, bancassurance and bancatakaful constitutes a significant feature of
Malaysia's financial landscape, and continues to develop rapidly in terms of market reach and
operational sophistication.
The recent passage of the Insurance (Amendment) Bill on Financial Advisers marks yet another
important milestone in ongoing efforts to achieve a more diversified market structure. With the
legislative framework now in place, I am pleased to announce that Bank Negara Malaysia will soon be
issuing licences for financial advisers. The introduction of financial advisers in the Malaysian insurance
industry will further diversify the distribution system for life insurance. Corporate bodies with a
minimum paid-up capital of RM100,000 will be eligible to apply for a financial adviser's licence. Similar
amendments to the Takaful Act 1984 will be undertaken in the near future within the context of more
substantive and wide-ranging changes to the current legislation.
Our foundations for financial stability will also continue to be strengthened with the ongoing evolution
of a more diversified and balanced financial structure. Today, Malaysia stands at the forefront in the
provision of comprehensive Islamic financial services covering banking, takaful, and the capital and
money markets. In the area of takaful, Bank Negara Malaysia continues to undertake initiatives aimed
at developing significant market players that are able to compete effectively and efficiently.
Although the organic growth of the existing takaful operators may meet the current demand for takaful
products and services, it is envisaged that players with strong capabilities in operational and risk
management, and product development would hasten the further expansion of the takaful industry. In
May this year, the Bank announced the issuance of up to four new licences for takaful operators. The
additional takaful licences are offered to sound financial institutions, with priority accorded to those
with experience in Islamic banking, takaful or insurance business. It could also include joint ventures
or consortiums of financial institutions, which includes at least a banking group. Such joint ventures or
consortiums would enable the new takaful operators to leverage on the expertise, experience and
infrastructure of their partner financial institutions. In line with the liberalisation in the Islamic banking
industry, foreign equity interest of up to 49% will be allowed in the takaful entity to secure strong
shareholders, and foster meaningful strategic alliances.
For insurers, the potential to participate with strong local and foreign partners in the new takaful
operators will open up significant opportunities to expand their product offerings to include a
comprehensive range of insurance and takaful products. Existing takaful operators will therefore need
to review their business and management strategies in response to the increased competitive
elements that are set to shape the takaful industry.
Malaysia has also moved strategically to establish closer economic linkages and integration with our
neighbours to enable Malaysian businesses to tap the vast commercial opportunities present in Asia.
The Government has already started negotiations on a number of free trade agreements that will open
doors to greater market access in the growth economies within the region. These negotiations are
currently now at various stages. We remain confident of achieving a positive outcome that will be
balanced and mutually beneficial. Specific opportunities for expansion abroad by Islamic financial
institutions, in particular, are also being further enhanced through various bilateral and multilateral
arrangements. This includes the signing of a memorandum of understanding between Malaysia and
the Islamic Development Bank in 2004 to enhance cooperation among member countries of the
Organisation of Islamic Conference, or OIC, in the areas of trade, investment, islamic finance and ICT
development. These initiatives will pave the way for Malaysian takaful operators to promote and
expand takaful and retakaful business to key target markets abroad, in particular, within the OIC.
The net benefits that will ultimately accrue to Malaysia will depend on the ability of Malaysian
institutions to develop targeted globalisation strategies that will position them to gain from the
firstmover advantages where they arise. This needs to be reinforced with research into the new growth
markets, and exploring opportunities for strategic alliances or joint ventures in these markets. At the
same time, the growth strategies must also accord an equal inward focus on reinforcing financial
strength and resilience, human capital development, a strong business reputation and high standards
of service and professionalism all of which are the critical success factors for effective strategies
abroad.
Maintaining financial stability remains a primary mandate of the Central Bank. In response to the
constantly changing financial landscape, Bank Negara Malaysia's approach to the regulation and
supervision of the insurance and takaful sectors has evolved to achieve a more robust regime that
emphasises three key dimensions: first, creating a strong risk management culture that overlays the
operations of insurers and takaful operators; second, facilitating market-led adjustments that will allow
the industry to evolve in response to market, technological and demographic developments, while
maintaining sufficient regulatory oversight to maintain financial stability and public confidence; and
third , ensuring mutually consistent policies for the banking and insurance sectors.
Two fundamental changes underpinning the Bank's current approach to regulation and supervision are
the shift towards "principle-based" regulations and the implementation of a risk-based regulatory and
supervisory regime. Increasingly, regulations have focused less on prescriptive rules, and more on
establishing the broad parameters for sound financial and business practices that provide substantial
flexibility for insurers and takaful operators to apply the principles in the manner most appropriate to
their specific circumstances. Under this approach, greater attention is also being given to the creation
of appropriate incentives within the system to achieve the desired outcomes.
The adoption of "principle-based" regulations is complemented by an increased focus on risk
management in the capital and supervisory framework. On this front, I am encouraged by the
industry's positive response to the new risk-based supervisory framework implemented for the
insurance and takaful industries since August 2004. The new approach amplifies the focus on
institution-specific risks in the supervisory assessment and rating process. Importantly, the framework
serves to mutually enhance understanding by the institutions and the Central Bank of the inherent
risks faced by the respective institutions, and thereby establish the common expectations regarding
the management and control of those risks, taking into account the nature, scope, complexity and risk
profile of the institution. This process, in turn, facilitates appropriate supervisory and institutional
responses that are proportionate to the risk assessments of individual institutions and their systemic
impact.
Similarly, the implementation of the risk-based capital framework for insurers will further reinforce the
regulatory focus on risk. The adjustments to this framework will take into account the feedback
received from the industry on the concept paper released by Bank Negara Malaysia in December last
year, as well as the results of the impact study that was concurrently carried out to assess the
potential capital adjustments required by insurers. Specifically, the adjustments to the framework are
being made to achieve greater consistency between the valuation bases for assets and liabilities, and
to fine-tune the asset risk charges. A second consultation paper, incorporating these changes, will be
released for further industry comments later this year.
Insurers will no doubt welcome the greater degree of investment flexibility that will be allowed under
the risk-based capital framework. It is an important improvement over the current "admitted assets"
framework, and one that is also expected to significantly raise the profile of the investment
management function within the industry. As the scope for differentiation between institutions
increases under the risk-based regime, it will become more critical for insurers to attract, develop and
retain the right human capital resources. With the liberalisation of financial markets and the rapid pace
of financial convergence, the investment management function within insurers needs to be flexible,
risk-focused, and equipped with professionals who are able to respond to the exigencies of the
marketplace.
An important component of the new risk-based capital and supervisory framework is the notion of
supervisory target capital levels which insurers will be required to maintain under the risk-based
framework. This is new to our environment, and has been a matter of some concern to insurers which
may view it as an additional capital burden. Although the risk-based capital regime will more closely
align economic capital with regulatory capital, it is important to recognize that it necessarily derives its
application from industry-wide tests which cannot fully address risks that are specific to an individual
institution. The supervisory capital target therefore serves to provide an early signal of emerging
difficulties so that appropriate intervention measures can be taken to prevent a further deterioration of
conditions which would warrant more drastic and costly actions. For insurers that already adopt robust
internal approaches to capital management, the introduction of the supervisory target level in itself
do not
should not significantly alter existing capital management strategies. Insurers that yet have
such systems in place, will be encouraged to develop them, and thereby enhance their own resilience
to adverse changes in business conditions.
The Bank is mindful that developments internationally on this front remain extremely fluid. Work is still
in progress on the International Financial Reporting Standard for Insurance Contracts, the Solvency II
initiative in the European Union, and the development of cornerstones for solvency assessments by
the International Association of Insurance Supervisors. The Bank will therefore continue to maintain an
open consultative approach in proceeding with this initiative to preserve our ability to respond
appropriately and to ensure its smooth implementation.
Going forward, greater attention will be given to market conduct issues, which recent experience in
other markets has shown to be an increasingly important factor in promoting confidence in the
insurance and takaful industries. Financial markets cannot operate efficiently and effectively unless
market participants act with integrity. This needs to be reinforced with adequate information to
consumers and investors to make informed decisions. In today's information era, the business
environment has changed dramatically, and with it, the expectations of consumers and investors have
also increased. The industry needs to adapt accordingly.
Policy initiatives by Bank Negara Malaysia in the area of market conduct will continue to focus on
achieving complete, true and plain disclosures to consumers, thereby equipping consumers to make
informed decisions essentially through consumer education initiatives, and ultimately, promoting the
fair treatment of policyholders. In this connection, I am pleased to announce that after more than two
years of extensive discussions with the industry, the revised Guidelines on Medical and Health
Insurance Business have now been finalized. The Guidelines will be released to the industry this
month for implementation early next year. This is an important strategic development, both from the
public policy and consumer perspectives. Today, medical insurance business accounts for the largest
share1 of non-tariff general insurance premiums in the market, with premiums exceeding RM1.3 billion
in 2004. The revised Guidelines have retained a significant degree of product flexibility, and enhanced
disclosure requirements to promote increased competition while more clearly defined rules governing
minimum policy terms and conditions will be put in place to deliver a reasonable level of protection to
policyholders. These requirements will also promote more consistent treatment of consumers in the
provision of core benefits under medical insurance policies.
Where regulatory intervention remains necessary, the Bank will continue to balance the business
interests of industry participants with that of consumers, to ensure that the costs of regulation are
commensurate with its perceived benefits to consumers. In the long term, however, reliance on
regulation and supervisory oversight alone is not a sustainable solution to the market conduct and
broader confidence issues that confront the industry. The desired outcome should be one where
freedom of action is accompanied by an appropriate degree of moral restraint on the part of the
market. This requires compatible incentives in the system and a strong ethical foundation built within
institutions which will ensure that insurers and takaful operators act responsibly within an environment
that allows greater business flexibility.
The strategic issues before us today concern the industry's responsibility to deliver a fair proposition to
consumers, its relevance in the changing environment and its readiness in terms of capacity and
infrastructure to support and sustain a successful strategy for growth.
It is hoped that discussions at this dialogue will contribute towards the thinking on future corporate
strategies as well as on the regulatory responses to ensure sound development. This will be an
opportunity to engage actively in the discussions on these keys issues confronting the industry in
moving forward. I wish you a successful and productive dialogue.
Thank you.