Bank of England called on the pension and insurance industries to help it in its work in understanding the potential systemwide impacts of asset allocation decisions made by institutional investors.
Sarah Breeden, head of the market sectors and interlinkages division in the financial stability directorate at the central bank, and her colleagues are working on a paper looking at whether pension funds and insurance companies invest pro-cyclically, and the effect that has on the wider economy.
“This is a substantial work program that we have been doing over the last year of so,” Ms. Breeden told delegates at a conference held by the National Association of Pension Funds in London on Tuesday.
“Our aim has been to attempt a thorough analysis of the motivations and evidence on cyclical trends in asset allocation, and what they mean for the macro economy. Trying to find evidence is hard; that is part of the reason why I am keen to tell the story. We hope to publish the material soon,” she said.
She said data and evidence in the U.K. have been hard to come by.
Ms. Breeden also referred to the issue of “herding” by pension funds — “if (they) behave pro-cyclically, they might all do so at the same time, and the impact of that behavior might be large,” she said.
She said responses to the market cycles “will have been muted by the actions of regulators.”
Ms. Breeden also said larger plans would have an effect on how the pension industry thinks about its decisions and their impact on the macro economy. “Could we somehow consolidate all the small schemes together into a couple of big schemes because then people care about the macroeconomic consequences of their actions because they feel the effects very directly. When you are one of thousands of schemes, that (realization) is not one that we bear.”
In its paper, the Bank of England is considering a number of issues, including short-term pro-cyclicality and the “tendency to invest in a way that exacerbates market movements, and thereby potentially contributing to asset price volatility, (which) might have consequences for other participants.”
The bank is also looking at the longer-term macroeconomic effects of that behavior. “Asset price volatility can have macroeconomic effects through increasing uncertainty and affecting decisions about consumption and investment.”