Is it a good idea to ease regulations on infrastructure investment?

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Earlier this year, Legal & General announced a pledge to invest £4bn into urban regeneration and the construction of new homes in the West Midlands. 

Working in partnership with the West Midlands Combined Authority (WMCA), L&G, which manages £1.4tn as the UK’s largest investor, has financed more than £30bn of regeneration projects in UK towns and cities outside London. It has already invested £2bn in the WMCA region, with the £210m Birmingham Health Innovation Campus and housing projects.

“The West Midlands economic plan, resources and skills make it an attractive destination for trade and investment from across the world,” said Sir Nigel Wilson, CEO of L&G at the time of the announcement. “Our role in this is to put UK funds, including pension savings, to work here so UK savers benefit from UK prosperity.” 

The deal is one of a growing number of major infrastructure projects financed by insurance companies. In June, Amanda Blanc, the group CEO of Aviva, told the Financial Times that the firm is considering investing funds from both policyholders and shareholders in infrastructure. It’s thought a deal could be done as early as this year. Blanc has spoken elsewhere about using the funding to promote green, low-carbon projects in particular. 

The government and insurance sector believe that such announcements could herald the unleashing of billions of pounds of investment by insurance firms in capital projects across the country. The key to unlocking this potential is to amend the Solvency II requirements.

Inherited from the UK’s membership of the EU, the regulation is undergoing a review, including a consultation that closes in July. Insurers have long argued that this regulation requires them to hold too much capital and applies too many restrictions on the type of investment they can make. The government and former prime minister Boris Johnson have made it known that they’re impatient to make this regulatory change.

The Prudential Regulation Authority (PRA), which oversees the insurance sector, is broadly in favour of measures to promote investment by insurers. But it is concerned that excessive relaxation of Solvency II could put policyholders at risk and damage the financial stability of insurance firms.

Among individual insurance companies arguing for change is Phoenix Group, the largest long-term savings and retirement company in the UK with around £300bn in assets under investment. “As an insurer, we’re a long-term investor looking for stable returns over decades,” says Andy Briggs, group CEO, Phoenix Group.

He points out that insurers are already some of the largest asset owners in the UK. “Solvency II reforms could represent a unique and significant opportunity to ensure more private-sector capital can be directed by insurers into long-term infrastructure assets in the UK,” he says. 

“Critically, these reforms can and should be made in a way that doesn’t compromise on policyholder protection – which remains the core priority for us as a business. With the right regulatory and policy changes, Phoenix could potentially invest up to £50bn in illiquid and sustainable investments in the UK, which will support and accelerate the decarbonisation and levelling-up agendas.”

How Solvency II reforms can unlock investment

The Pension Insurance Corporation specialises in pension insurance buyouts and buy-ins to the trustees and sponsors of UK defined-benefit pension funds. In January, it revealed that it could have almost doubled its infrastructure investment, from £10.9bn to £20.9bn, since 2016 if it hadn’t been for Solvency II. According to the corporation, if the regulations were reformed then its planned investment in what it calls productive finance could increase from £30bn to £50bn by 2030.

The Association of British Insurers (ABI) recently called on the insurance industry to strengthen its role as key investors in net-zero infrastructure. The aim, according to the ABI, is to put more of insurers’ capital into green investments and ensure that they are “central to the conversation about how green infrastructure is developed and funded”.

It wants to “unlock the significant investment potential from the insurance and long-term savings industry through meaningful reform of the Solvency II regulatory framework” while bringing investors into the “heart of the decision-making process on green infrastructure and technology development”.

Infrastructure companies and finance firms should note that insurers will require granular detailed information about the performance of the project in question. So says Bob Haken, corporate finance partner at law firm Norton Rose Fulbright. 

“Particular to infrastructure, insurers will also need to be satisfied as to the expected cash flows, especially any volatility,” he says. “Depending on the particular structure, it may also be necessary to obtain a rating for the debt.”

He adds: “The regime is intended to facilitate and encourage investment in infrastructure projects. If the qualifying criteria were to be relaxed, we may see much greater investment by insurers, to the benefit of communities relying on the infrastructure. So far, the PRA has been reluctant to single out green projects for preferential treatment but policymakers may see this as an opportunity.”

The government is expected to introduce changes to Solvency II with a new financial services bill to be brought forward in the autumn. The resulting legislation could be introduced as early as next year. 

So far, the PRA’s suggestions have been relatively modest. If, though, the Treasury and the insurance industry win the current argument about the balance between ensuring solid foundations for insurers on the one hand and allowing them to realise the full potential of their considerable financial clout on the other, infrastructure across the UK might be on the verge of a new golden era.