France and Germany want to water down proposals on group supervision.

The ABI has warned that the UK industry could suffer the “worst of all worlds” if EU finance ministers water down plans to overhaul the way insurers are supervised.

Stephen Haddrill, the ABI’s director-general, has written to Lord Myners, financial services secretary to the Treasury, to express his concern at proposals in Brussels to scrap a key element of Solvency II that would allow multi-national insurers to be regulated primarily in their home countries.

European finance ministers, including the UK chancellor Alistair Darling, will review the regulations, due to come into force in 2012, at a European Council meeting on Tuesday.

The two arms of European government – the parliament and the council – have reached stalemate.

The parliament wants the proposals to go ahead in the current form, but French and German representatives on the council want to water them down.

The row centres on group supervision, which would allow regulators, such as the FSA, jurisdiction over insurers in other member states. Although the UK supports the concept, other states are worried it could limit their own power.

Peter Skinner, the MEP in charge of steering the legislation through the European parliament, said he was “deeply disappointed” with the council’s stance, but insisted the parliament would not back down.

Unless the two arms of government can agree, the sweeping legislation could be delayed.

Haddrill’s letter to the Treasury, which will brief Darling ahead of the meeting, said: “As a complete negation of the move to cross-border supervision … there seems an acceptance by some member states of a limited traditional regulatory system, circumscribed by national solo supervision.

“As recent events in banking markets have shown, such an approach is hopelessly outdated, so why allow it to become the basis of a 21st-century regulatory framework for Europe?

“As things stand, there is a danger of a ‘worst of all worlds’ outcome for the UK. The real wins in terms of a strong role for group supervision – and with it the benefits of diversification – and an advanced supervisory process capable of dealing with international insurance groups headquartered within the single market are all likely to be lost if the direction of negotiations is not changed.”

As Insurance Times recently revealed, other aspects of the Solvency II legislation are coming under increased scrutiny as the economic slowdown raises questions over their viability.