Assessing the effects of unconventional monetary policy and low interest rates on pension fund risk incentives

In this article the role of unconventional monetary policy and low interest rates are amplified as one of a series of components of possible explanations on US pension funds risk taking and asset allocation behavior. We quantify the effects of persistently low interest rates near to the zero lower bound, and the unconventional monetary policy adopted by the Federal Reserve by using counterfactual scenarios and two structural Vector AutoRegressive (VAR) models. We provide the first comprehensive evidence showing that monetary policy shocks, identified as changes in interest rates that lead to larger or smaller changes in Treasury yields, are followed by a substantial increase in equity assets. The shift from Treasury bonds to equity securities is greater during the unconventional monetary policy period. We document a positive correlation between pension fund risk taking, low interest rates and the decline in Treasury yields across well-funded and underfunded pension plans, which is consistent with a structural risk shifting incentive.