Summary

The FSA wishes to control what it calls "liquidity swaps" and has therefore published guidance. These swaps refer to transactions which effect a liquidity transformation between an insurer and a bank by typically exchanging high credit quality, liquid assets such as gilts held by the former with illiquid or less liquid assets, such as asset-backed securities held by the latter. But other forms of swaps are also included but not spelled out. We argue for more clarity on scope. The FSA will control these swaps through Pillar 2 add-ons.

We consider the guidance is not proportionate for mutuals given they are relatively small players in the market. Already the consultation has led to higher swap prices and the exit of some parties from the market.

Our response to FSA on liquidity swaps

FSA guidance consultation on liquidity swaps

The regulator says it is seeing more banks and insurers entering into liquidity swaps. As a result of these swaps being used on a greater scale in terms of size, duration and concentration, the FSA fears that they could increase inter-connectedness between the insurance and banking sectors. It also thinks they could increase depositors' structural subordination caused by asset encumbrance, leading to a possible greater call on the FSCS.

We also express concern at the FSA's requirement for firms to notify it before execution of these swaps.