The High High Cost of Low Low Rates
Monetary easing combined with a promise to increase both nominal GDP growth and interest rates would jump start this stagnant economy.
In a recent Wells Fargo/Gallup survey, one in three investors report that low interest rates have forced them to delay retirement. Forty-two percent of people now investing say that low rates have made them doubt that their retirement savings will last as long as they will, and nearly 40 percent of retirees report reduced consumption because of low interest rates.
Most of us assume that low interest rates are good for the economy. The Fed surely must agree, as it has pushed interest rates about as low as they can go. Then why isn’t the economy growing? Could it be that low interest rates are causing our economic difficulties?
That’s a pretty big number, when you think about it. It’s a number big enough to equal Obama’s stimulus program in less than two years. It’s not in this administration’s nature to worry about those who have succeeded in life and have savings to invest, but perhaps officials should mention that lost demand the next time they talk with Federal Reserve Chairman Ben Bernanke. Just because “somebody else did that,” doesn’t mean the economy wouldn’t benefit from increased spending by retirees.
Not only that, but the extended period of low interest rates will sound the death knell for the defined-benefit pension. Pension plans are funded by contributions from employers and from the returns those contributions earn. Low interest rates translate rather quickly and brutally into underfunded pensions. Most public pensions assume an investment return of around 7.5 to 8 percent. Moody’s has estimated that public pensions are underfunded by $2.2 trillion if that assumption is lowered to a 5.5 percent return. This estimated rate is still over the return from the S&P 500 in the last decade and almost double the return available from long-term bonds.
Annual interest income for savers has dropped $450 billion in the past four years.
It was little noticed, but the recently passed highway bill included provisions that will allow corporations to defer the increased pension contributions that had become necessary because of low interest rates. This is a perfect example of crony capitalism—run a monetary policy that makes it impossible to fund pensions, then reward large corporations with the ability to use accounting gimmicks (all in a bill that’s supposed to be about fixing bridges).
There is a real problem here. Many public pension plans have overpromised, even if interest rates had remained at the levels of the past. At present rates, even pension plans in municipalities and states that were conservative in their funding and financial projections are facing bleak futures.