With the Federal Open Market Committee meeting coming June 14-15, a decision is looming on whether it will resume its small incremental steps toward raising the federal funds rate and encouraging higher interest rates throughout the economy.
In their monetary policy over the past eight years, the FOMC and the Federal Reserve Board of Governors, which oversees the committee, have failed to take into account the financial damage wreaked on defined benefit plan sponsors and other asset owners trying to meet their obligations, as well as on defined contribution participants and retirees trying to mitigate market risk through a stabilizing allocation to fixed income.
The FOMC had kept the federal funds rates at a target range between zero and 0.25% since it first lowered it to that level in December 2008 to promote liquidity in the market during the financial crisis. In December, it raised the rate to a range between 0.25% and 0.5%.
The FOMC should move in June to raise rates further and keep raising them to a normalized level. It is a challenge to determine what that normal level should be. Interest rates have fallen steadily for 35 years. The Fed should relax its grip to allow the market to determine interest rates at any time in the economic cycle. Current monetary policy has failed to invigorate a weak economy.
The Fed and FOMC also must begin to take into account in their assessments for arriving at monetary policy decisions the impact on asset owners and other institutional investors such as insurance companies that have to finance obligations like annuities.
A poll at the CFA Institute annual conference earlier this month in Montreal found 63% of responding attendees said interest rates are the biggest challenge for institutional plan executives. Much further behind for respondents were the issues of regulators' influence on financial markets (19%), equity market underperformance (11%) and fee compression (7%).
The consequences of a near-zero interest-rate policy have resulted in making defined benefit plans unaffordable to many corporations, resulting in plan freezes and closures. Among other impacts, the policy has raised the cost of annuities, harming the ability of defined contribution participants to create a lifetime income in their retirement.
Minutes of FOMC activity show its members have failed to take into account the ramifications of monetary policy on investment markets and its impact on the economy.
The Fed has a dual mandate from Congress: to maintain low inflation and full employment. But it has assumed a larger role to stimulate the overall economy, in part because of the neglect of Congress and the Obama administration's failure to address fiscal shortcomings, to boost economic activity.
Retirement plans, whether defined benefit or defined contribution, have important social and economic value that the FOMC and Fed fail to take into account in monetary decisions. Their strength helps relieve pressure on government safety nets, already financially strained because of a weak economy. Strong retirement programs also provide capital for long-term corporate investment, lifting economic activity.