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The Fisher Hypothesis and Its Implications for Defined Benefits

The Fisher Hypothesis and Its Implications for Defined Benefits APJRI 2015; 9(1): 107–124 Featured Article Andrew P. Leung* The Fisher Hypothesis and Its Implications for Defined Benefits Abstract: Asset liability management is often employed for managing the risks associated with defined benefits. Liability Driven Investment is a recent phenom- enon in financial circles, promising a coherent framework for achieving this aim. It has been focused on managing interest rate risks by appropriate debt strate- gies. However the formulation of debt strategies needs to take explicit account of one characteristic that affects most liabilities, namely inflation. This factor generates as much risk as interest rates; moreover it is intimately related to them. We examine this issue in depth, and consider the economic relationships between interest rates and inflation. This is conducted in the light of the Fisher Hypothesis. We show that this analysis has significant implications for nominal debt strategies. Keywords: liability driven investment, inflation, real interest rates, Fisher Hypothesis DOI 10.1515/apjri-2014-0038 1 Introduction In the context of defined benefit and pension liabilities, Chambers et al. (2005) identify the main risk factors as: 1. interest rate risk, which affects the valuation of liabilities at any point of time; 2. salary inflation risk, in the case of salary-linked benefits; 3. http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png Asia-Pacific Journal of Risk and Insurance de Gruyter

The Fisher Hypothesis and Its Implications for Defined Benefits

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Publisher
de Gruyter
Copyright
Copyright © 2011–2019 by Walter de Gruyter GmbH
ISSN
2153-3792
DOI
10.1515/apjri-2014-0038
Publisher site
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Abstract

APJRI 2015; 9(1): 107–124 Featured Article Andrew P. Leung* The Fisher Hypothesis and Its Implications for Defined Benefits Abstract: Asset liability management is often employed for managing the risks associated with defined benefits. Liability Driven Investment is a recent phenom- enon in financial circles, promising a coherent framework for achieving this aim. It has been focused on managing interest rate risks by appropriate debt strate- gies. However the formulation of debt strategies needs to take explicit account of one characteristic that affects most liabilities, namely inflation. This factor generates as much risk as interest rates; moreover it is intimately related to them. We examine this issue in depth, and consider the economic relationships between interest rates and inflation. This is conducted in the light of the Fisher Hypothesis. We show that this analysis has significant implications for nominal debt strategies. Keywords: liability driven investment, inflation, real interest rates, Fisher Hypothesis DOI 10.1515/apjri-2014-0038 1 Introduction In the context of defined benefit and pension liabilities, Chambers et al. (2005) identify the main risk factors as: 1. interest rate risk, which affects the valuation of liabilities at any point of time; 2. salary inflation risk, in the case of salary-linked benefits; 3.

Journal

Asia-Pacific Journal of Risk and Insurance – de Gruyter

Published: Jan 1, 2015

Keywords: liability driven investment

References

  • Information Theoretic Approach to Actuarial Science: A Unification and Extension of Relevant Theory and Applications
    Brockett