Current high levels of financial repression create significant costs and lower long-term investors' ability to channel funds into the real economy, a new Swiss Re study shows
26 March 2015, Zurich
- Since the financial crisis, US savers alone have lost roughly USD 470 billion in interest income
- Artificially low interest rates that go with financial repression lower incentives for policymakers to tackle much needed structural reforms in Europe
- Other unintended consequences of financial repression include potential asset bubbles, crowding out long-term investors in otherwise functioning private markets, increasing economic inequality and the potential of higher inflation over the long-term besides distorting private capital markets
- Swiss Re developed a Financial Repression Index, the first of its kind, measuring the extent of policymakers' actions. Swiss Re has also quantified the costs of interest rates being at artificially low levels for households and long-term investors
- Financial repression describes official policies directing funds to markets that would otherwise go elsewhere and reduces diversification of funding sources to the economy, representing a risk for financial stability
Seven years after the financial crisis, central banks are still keeping interest rates at historically low levels. Low interest rates help finance governments' debt and lower funding costs, as well as support growth. But such policy actions cause financial repression. This comes at a substantial cost for both households and long-term investors such as insurance companies and pension funds, according to a new Swiss Re report Financial repression: The unintended consequences.
With continued increases in bond prices, expensive stocks and relatively low volatility, the impact of financial repression on markets is undisputable. Meanwhile, the impact of foregone interest income for households and long-term investors has become substantial: in the US alone, savers have lost about USD 470 billion in interest rate income (net) since the financial crisis (2008-2013).
Over the same period, EU and US insurers have lost around USD 400 billion in yield income. This currently corresponds to an annual "tax" of roughly 0.8% of total financial assets on average, lowering long-term investors' capacity to channel funds to the real economy.
Swiss Re's own index, the first such index to measure financial repression, shows that financial repression remains very high, albeit down from its 2011-2012 peak. The major driver of change post 2007-2008 has been monetary policy.
Swiss Re's Group Chief Investment Officer, Guido Fürer, says: "Besides the impact on long-term investors' portfolio income, the consequence for capital market intermediation is not negligible either. Crowding out investors due to artificially low or negative yields will reduce the diversification of funding sources to the real economy, thus representing a risk for financial stability and economic growth potential at large."
The index is based on three broad categories including monetary components, such as real yields and the difference of long-term government bond yields to their 'fair value', as well as regulatory and "other" components, such as banks' domestic sovereign debt holdings and capital flow development.
Long-term investors are part of the intermediation channel that helps move saving funds to the real economy. In Europe alone, insurance companies have roughly USD 9.5 trillion in assets under management, amounting to about 60% of European long-term investments funds available.
Keeping interest rates artificially low through official intervention hampers the ability of long-term investors to deploy risk capital into the real economy. It has broken the financial market intermediation channel by crowding out viable private markets, lowering the funds available from long-term investors to be used for the real economy. Investments in infrastructure could repair this damage and address weak economic growth.
Policymakers face a trade-off between supporting the economic recovery and contributing to the further potential build-up of financial and economic imbalances. However, through lowering yields and thus distorting private market signals, financial repression serves as a disincentive for governments to tackle pressing public policy challenges and thus advance the structural reform agenda.
The longer such extraordinary and unconventional monetary policies are in place, the more challenging the exit phase will be. The increasing role of public versus private markets spurs economic and financial market imbalances, representing key vulnerabilities for the long-term stability of well-functioning financial markets.
Financial repression is likely to remain a key tool for policymakers given the moderate global growth outlook and high public debt overhang. Whether the costs outweigh the benefits largely depends on the ability of governments to take advantage of the low interest rate environment by implementing the right structural reforms. So far the record for doing so hasn't been comforting.
"Future policy actions to create more stable and well-functioning private markets are important for economic growth in the long-term. That said, today's environment already provides a great window of opportunity, particularly in the area of infrastructure investments. Here we need a tradable infrastructure debt asset class so we don't have to rely on the public sector for investments. Instead, the public policy environment should promote a well-functioning private infrastructure debt market," says Guido Fürer.
Note to editors
The Swiss Re Group is a leading wholesale provider of reinsurance, insurance and other insurance-based forms of risk transfer. Dealing direct and working through brokers, its global client base consists of insurance companies, mid-to-large-sized corporations and public sector clients. From standard products to tailor-made coverage across all lines of business, Swiss Re deploys its capital strength, expertise and innovation power to enable the risk-taking upon which enterprise and progress in society depend. Founded in Zurich, Switzerland, in 1863, Swiss Re serves clients through a network of about 70 offices globally and is rated "AA-" by Standard & Poor's, "Aa3" by Moody's and "A+" by A.M. Best. Registered shares in the Swiss Re Group holding company, Swiss Re Ltd, are listed in accordance with the Main Standard on the SIX Swiss Exchange and trade under the symbol SREN. For more information about Swiss Re Group, please visit: www.swissre.com or follow us on Twitter @SwissRe.
For logos and photography of Swiss Re executives, directors or offices go to www.swissre.com/media
For media 'b-roll' please send an e-mail to firstname.lastname@example.org
Cautionary note on forward-looking statements
Certain statements and illustrations contained herein are forward-looking. These statements (including as to plans, objectives, targets, and trends) and illustrations provide current expectations of future events based on certain assumptions and include any statement that does not directly relate to a historical fact or current fact.
Forward-looking statements typically are identified by words or phrases such as “anticipate”, “assume”, “believe”, “continue”, “estimate”, “expect”, “foresee”, “intend”, “may increase”, “may fluctuate” and similar expressions, or by future or conditional verbs such as “will”, “should”, “would” and “could”. These forward-looking statements involve known and unknown risks, uncertainties and other factors, which may cause Swiss Re’s actual results of operations, financial condition, solvency ratios, liquidity position or prospects to be materially different from any future results of operations, financial condition, solvency ratios, liquidity position or prospects expressed or implied by such statements or cause Swiss Re to not achieve its published targets. Such factors include, among others:
- instability affecting the global financial system and developments related thereto;
- deterioration in global economic conditions;
- Swiss Re’s ability to maintain sufficient liquidity and access to capital markets, including sufficient liquidity to cover potential recapture of reinsurance agreements, early calls of debt or debt-like arrangements and collateral calls due to actual or perceived deterioration of Swiss Re’s financial strength or otherwise;
- the effect of market conditions, including the global equity and credit markets, and the level and volatility of equity prices, interest rates, credit spreads, currency values and other market indices, on Swiss Re’s investment assets;
- changes in Swiss Re’s investment result as a result of changes in its investment policy or the changed composition of its investment assets, and the impact of the timing of any such changes relative to changes in market conditions;
- uncertainties in valuing credit default swaps and other credit-related instruments;
- possible inability to realise amounts on sales of securities on Swiss Re’s balance sheet equivalent to their mark-to-market values recorded for accounting purposes;
- the outcome of tax audits, the ability to realise tax loss carryforwards and the ability to realise deferred tax assets (including by reason of the mix of earnings in a jurisdiction or deemed change of control), which could negatively impact future earnings;
- the possibility that Swiss Re’s hedging arrangements may not be effective;
- the lowering or loss of one of the financial strength or other ratings of one or more Swiss Re companies, and developments adversely affecting Swiss Re’s ability to achieve improved ratings;
- the cyclicality of the reinsurance industry;
- uncertainties in estimating reserves;
- uncertainties in estimating future claims for purposes of financial reporting, particularly with respect to large natural catastrophes, as significant uncertainties may be involved in estimating losses from such events and preliminary estimates may be subject to change as new information becomes available;
- the frequency, severity and development of insured claim events;
- acts of terrorism and acts of war;
- mortality, morbidity and longevity experience;
- policy renewal and lapse rates;
- extraordinary events affecting Swiss Re’s clients and other counterparties, such as bankruptcies, liquidations and other credit-related events;
- current, pending and future legislation and regulation affecting Swiss Re or its ceding companies and the interpretation of legislation or regulations;
- legal actions or regulatory investigations or actions, including those in respect of industry requirements or business conduct rules of general applicability;
- changes in accounting standards;
- significant investments, acquisitions or dispositions, and any delays, unexpected costs or other issues experienced in connection with any such transactions;
- changing levels of competition; and
- operational factors, including the efficacy of risk management and other internal procedures in managing the foregoing risks.
These factors are not exhaustive. Swiss Re operates in a continually changing environment and new risks emerge continually. Readers are cautioned not to place undue reliance on forward-looking statements. Swiss Re undertakes no obligation to publicly revise or update any forward-looking statements, whether as a result of new information, future events or otherwise.
This communication is not intended to be a recommendation to buy, sell or hold securities and does not constitute an offer for the sale of, or the solicitation of an offer to buy, securities in any jurisdiction, including the United States. Any such offer will only be made by means of a prospectus or offering memorandum, and in compliance with applicable securities laws.
In our ongoing efforts to improve the quality and relevance of our publications, we would like to know more about you.