Regulatory harmonization is often described as a force that should compress difference. Shared rules, aligned standards, and coordinated oversight suggest convergence. From a distance, markets operating under the same framework appear destined to resemble one another. In insurance, this expectation routinely fails. Fragmentation persists, even where regulation is formally aligned.
The reason is not regulatory weakness. It is structural layering.
Harmonized rules define minimum conditions for participation, not uniform behavior. They establish floors for capital, disclosure, and conduct, but they do not dissolve the environments in which institutions operate. Markets remain embedded in distinct economic histories, legal traditions, and distribution architectures. Regulation overlays these differences rather than replacing them.
One source of persistence lies in how firms internalize rules. Compliance does not produce identical interpretation. Institutions translate regulatory language into internal policy through their own risk tolerances, legacy systems, and governance structures. The same requirement can lead to different operational choices depending on what an organization is built to absorb.
Distribution amplifies this divergence. Even under common regulation, markets rely on different intermediary structures. Some favor dense broker networks. Others concentrate distribution through fewer channels or digital platforms. These structures shape product emphasis, risk selection, and pricing behavior without altering the formal regulatory frame. Fragmentation reappears at the interface.
Capital flows introduce another layer. Harmonized rules do not equalize access to capital or cost of funding. Firms operating in different financial ecosystems face different pressures. Where capital is abundant, risk appetite expands within regulatory bounds. Where it is scarce, conservatism dominates. Both behaviors are compliant. They simply respond to different constraints.
Legal context matters as well. Regulation may align supervisory standards, but dispute resolution, enforcement culture, and judicial interpretation remain local. The expected cost of ambiguity varies accordingly. In some markets, uncertainty is tolerated. In others, it is avoided. Policy design and claims posture adjust to these expectations, reinforcing differentiation.
Historical accumulation further entrenches fragmentation. Markets evolve through precedent. Past losses, past crises, and past regulatory interventions leave marks that do not disappear with harmonization. Institutions carry memory. They adjust not only to current rules, but to remembered consequences. These memories differ across jurisdictions, shaping present behavior.
Operational infrastructure also resists convergence. Systems built for reporting, claims handling, and risk modeling reflect earlier regulatory regimes. Updating them to fit new standards does not erase their architecture. Harmonization often results in adaptation rather than reconstruction. The old structure remains visible beneath the new alignment.
Even consumer interaction contributes. Expectations about insurance vary culturally, even when disclosures are standardized. What feels sufficient in one market may feel excessive or inadequate in another. Firms respond by emphasizing different features within the same regulatory allowance. Products comply, but they do not converge.
What emerges is a pattern where harmonization narrows extremes without eliminating variation. It reduces outright incompatibility, but preserves local expression. Markets become comparable without becoming interchangeable. Fragmentation shifts from formal rule differences to structural behavior.
This persistence is often misread as inefficiency. In reality, it reflects the limits of regulation as a unifying force. Rules can align boundaries, but they do not standardize context. Insurance operates inside contexts that regulation does not fully control.
The effect is cumulative. Each layer—capital, distribution, legal culture, history—adds its own deviation. No single factor explains fragmentation. Together, they stabilize it. The more comprehensive harmonization becomes, the more these underlying differences carry weight.
Over time, this leads to a paradoxical outcome. As regulation converges, fragmentation becomes less visible but more durable. Differences move inward, into institutional practice and market interaction. They persist precisely because they no longer violate formal alignment.
Seen this way, market fragmentation is not a failure of harmonization. It is its companion. Harmonized rules define the space within which markets diverge. They create a shared perimeter, not a shared interior.
The system continues to operate on this basis because it allows coordination without erasure. Markets remain locally responsive while formally aligned. Regulation holds the structure together. Fragmentation fills it in, quietly maintaining difference where uniformity was expected but never structurally required.