Tuesday, April 12, 2016

Monetary Expansion

The unintended consequences of monetary expansion are starting to show.

One area in which it manifests itself is the retirement savings arena.

Private and professional savers are hit hard by low interest rates. They either get a very low return at low risk or a mediocre return at high risk.

Pension and Life Insurance funds are effected by low interest rates in two ways. One is lower interest is making for lower yield on fixed income investments and two lower interest is causing a higher cash value of future obligations through a lower discounting rate. Both have a negative effect on the funding ratio. In order to improve this ratio contributions need to rise and/or benefits need to fall.

Monetary easing is also fueling debt demand by Corporations. Debt that is used to buy back shares and lever up the company. A profitable but risky endeavour in this extremely low interest rate environment. A rise in interest rates or a drop in equity values could have dire consequences.