Negative rates, a misconception in finance when it concerns pension fund obligations

The negative interest rates are threatening doom loop for pensions. In UK negative rates is an area where British central bank doesn’t want to go to. Negative rates are an oxymoron., isn’t it? Lots of people when they first heard of this notion, intellectually interesting, conceptually extremely disruptive, thought it was a non-sense and maybe not a good idea. The fixed income bonds to some EU states could be renamed “fixed expenses for the investors seeking for capital preservation or balance-sheet management. It remains a misconception, in my view. In June 2014, ECB started with this mass destruction weapon. Others followed in Europe. Whatever the objectives, reasons and causes, negative rates could be viewed as the last resort tool, which prolongs the downward spiral. The economy became trapped with low growth and low inflation. Cutting rates to stimulate demand from households and corporates has limits. It can even become counterproductive. Isn’t it ending up doing more harm than good? It will in the medium term impair banking system and banks will earn less and less on their assets. It creates a Cornelian dilemma for insurance companies too and eventually it hit severely the pension funds. The perverse effect, I have often underlined is the risk of seeing savings increasing from households to compensate losses and lower retirement income. We have reached the ultimate limits couple of years ago and they decided to dig and go even further down earth level. They thought it was a good idea. Some economist now think it was maybe not such a great idea. Even if unusual times require exceptional measures, as ECB chair told us, it seems to have reached the maximum level it could have produce positive effects. Negative rates are supposed to sort out problems although they even create other ones. And a side effect, I also mentioned several times is on Defined Benefit plans which should disappear. It is a side effect of these inverted rates which made Defied Benefit schemes dangerously expensive for employers. How to explain to people on the street that they should save more, spend less, save earlier, and retire later. The pension funds have been encouraged to de-risk their portfolios given ageing populations. We have in some cases reached a level where there are less income, investments, and contributions than money going out for employees. The times are changing. The new pension regulations will have to adapt to offer CDC schemes to avoid time issues on exit for employees and to enable broader investment strategies to mitigate risks and weight the returns. The negative rates remain a solution that cannot satisfy all stakeholders. When benefits of a measure become larger than inconveniences, it is time to re-think the strategy. At this stage, I remain curious to see how Sweden Krona and economy will evolve with their closer-to-zero strategy. Too much is too much and when measures become counterproductive, it is time to reconsider them and to contemplate other routes.

Fran?ois Masquelier, SimplyTreasury