On the one hand, rules-based approach uses
prescribed valuation assumptions that are the same across all policies. It
limits the flexibility and the use of judgement allowed in the implementation.
On the other hand, in principle-based approach,
actuary uses prescribed guidance from law or professional standards and is
responsible for determining the appropriate model and assumptions. Comparing
with rules-based approach, principle-based approach has the following unique
· Captures significant financial risks, benefits, and
guarantees associated with contracts, including “tail risk” and funding of the
· Uses risk analysis and risk management techniques to
quantify risks, and is guided by evolving practice in the measurement and
management of risk (e.g. stochastic models)
· Incorporates assumptions and methods consistent with,
but not necessarily identical to, those used by the company in pricing or
overall risk management
· Permits use of company experience
· Provides for use of assumptions that contain an
appropriate level of conservatism when viewed in the aggregate and that,
together with methods used, recognize the solvency objective of statutory
Some pros and cons of principles-based and
flexible with new and
changing environments. As such, they usually require less maintenance.
difficult to audit relative to compliance
a danger that it can be used to manipulate financial results.
Rule-based standards are generally considered easier to audit for
compliance purposes, and may produce more consistent and comparable
lack of flexibility with regard to changing conditions. Thus, require
maintenance from time to time.