The Federal Reserve plans to unveil its approach in formulating capital standards for insurers it oversees in “coming weeks.”

In remarks prepared for delivering to the National Association of Insurance Commissioners' International Insurance Forum in Washington Friday, — Federal Reserve Gov. Daniel Tarullo said that the advance notice of proposed rulemaking he anticipates the Fed will issue probably put forth two ways to set capital standards. One will apply to insurers that “we supervise solely because they own a bank or thrift” and the other for the firms designated as systemically important financial institutions.

Under the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, the federal Financial Stability Oversight Council can designate certain non-bank financial institutions as systemically important and therefore subject to heightened federal oversight by the Fed. FSOC designate three insurers — American International Group Inc., MetLife Inc. and Prudential Insurance Co. — as SIFIs. MetLife challenged the designation in court, and a U.S District Court recently ordered the designation lifted, an order the Treasury Department has already appealed,

Mr. Tarullo said that for insurers designated as SIFIs, the advance notice of proposed rulemaking will probably seek comment on a so-called “consolidated approach”.

“As with our capital requirements for bank holding companies, the (consolidated approach) would categorize all of the consolidated insurance group's assets and insurance liabilities into risk segments, apply risk factors to the amounts in each segment, and then set a minimum ratio of required capital comparing the consolidated capital requirements to the group's consolidated capital resources. However, the (consolidated approach) would use risk weights or risk factors that are more appropriate for the longer-term nature of most insurance liabilities.”

Insurers have long criticized the process for designating underwriters as SIFIs. They cited concerns that insurers would be subject to capital requirements designed for banks, and that once designated a SIFI, an insurer had no clear way to exit the designation.

“The Federal Reserve and state regulators have complimentary roles to play in protecting U.S. policyholders and the financial system at large,” said John M. Huff, NAIC president and Missouri insurance director in a statement. “We appreciate Gov. Tarullo's engagement with the NAIC and look forward to working closely with the Federal Reserve as its supervisory framework is further developed.”

An insurer trade group liked what it heard.

“AIA welcomed Gov. Tarullo's remarks this morning,” said Leigh Ann Pusey, president and CEO of the Washington-based American Insurance Association, in a statement. “They provided needed clarity about the direction the Federal Reserve Board intends to take with respect to its domestic group capital regulation for those insurers it prudentially supervises, and the rationale behind the twin approaches that are to be recommended.”

Ms. Pusey said that Mr. Tarullo was “clear that other models were not appropriate. Specifically, he described a Solvency II type approach as unpromising for several reasons, including the volatility of its valuation, the reliance on internal models, and its pro-cyclical nature. Similarly, he expressed concerns over the cash flow stress testing approach, citing the extensive development that would be required over a long period.”

“AIA is encouraged by the governor's analysis, particularly as it recognizes the challenges presented to the U.S.-based groups that the Fed prudentially supervises,” she said.