The Sifi designation tries to discourage firms from growing so large that their failure could imperil the financial system — a reasonable enough goal. But the process itself has been contentious from the start in the US.
Being on the Sifi list is so punitive that some firms, such as GE Capital, revamped their whole business model to avoid it, while it appears to have left others mostly unscathed.
AIG’s inclusion on the list of systemically important non-bank financial institutions, which included Prudential and MetLife along with GE, always felt like a punishment for its role in the crisis and its removal from the list likely spells the end of the Sifi era for some of the big non-banks — GE has lost the tag and MetLife litigated successfully to be removed, although that case was appealed by the Treasury.
However, even though the Sifi designation has likely been consigned to the history for these firms, organisations with the size of AIG and MetLife still remain systemically important to the US economy.
MetLife is the largest life insurer in the US. Should it face a crisis like the one faced by AIG, where its survival is under immediate threat, the billions of dollars’ worth of life insurance policies and pensions annuities that it underwrites would be under threat and their ability to make claims called into question.
If AIG were to fail today, the impact would still be felt by millions of consumers and corporations who are the firm’s insurance customers.
If either firm were to fail, the US government would likely have to step in to try and protect policy holders as state insurance guarantee funds would be unlikely to be able to cover the burden.
The same is true of a number of other insurance giants across the world, where the collapse of a firm would put millions of policies at risk.
While the Sifi process arbitrarily seemed to punish AIG, MetLife and Prudential, large insurers should still face more scrutiny than smaller companies simply because the collapse of any of these firms would be devastating to the real economy, as AIG’s failure in 2008 would have been.
An ending of the Sifi designation is perhaps a good thing for the market, and is definitely a positive for AIG, but firms of its size should still face closer regulatory scrutiny, whichever designation they require, because it remains, in practice, too large for any government to allow it to collapse.
Should any insurer be allowed to wonder into the same territory of providing credit insurance derivatives on a large number ABS bonds which go bad, for example, that firm’s collapse could still cripple the global financial system.
If it also happened to have millions of policy holders depending on it for financial security, then that would be a truly catastrophic event for the entire global economy and could lead to an even worse downturn than we saw in 2008.
AIG has gone a long way towards cleaning up its act and under the leadership of its new CEO Brian Duperreault seems a far cry from the pre-crisis era — there's no special reason to think it's planning a new plunge into writing credit protection on the next bubbly asset class.
But its sheer size and reach, characteristics shared by a number of other giant global insurance firms across the globe, merits enhanced scrutiny of some form. All financial and insurance companies are important but some are definitely more important than others — and the Sifi designation doesn't catch them all.