On the one hand, rules-based approach usesprescribed valuation assumptions that are the same across all policies. Itlimits 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 isresponsible for determining the appropriate model and assumptions. Comparingwith rules-based approach, principle-based approach has the following uniqueconcepts: · Captures significant financial risks, benefits, andguarantees associated with contracts, including “tail risk” and funding of therisks· Uses risk analysis and risk management techniques toquantify risks, and is guided by evolving practice in the measurement andmanagement of risk (e.g.
stochastic models)· Incorporates assumptions and methods consistent with,but not necessarily identical to, those used by the company in pricing oroverall risk management· Permits use of company experience· Provides for use of assumptions that contain anappropriate level of conservatism when viewed in the aggregate and that,together with methods used, recognize the solvency objective of statutoryreserves Some pros and cons of principles-based andrules-based include: Principles-based approach: · Pros flexible with new and changing environments. As such, they usually require less maintenance. · Cons difficult to audit relative to compliance a danger that it can be used to manipulate financial results. Rules-based approach Pros Rule-based standards are generally considered easier to audit for compliance purposes, and may produce more consistent and comparable results Cons lack of flexibility with regard to changing conditions. Thus, require maintenance from time to time.