## LOW GROWTH, LOW INTEREST RATES, AND FINANCIAL INTERMEDIATION

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**Canonical URL:** [LOW GROWTH, LOW INTEREST RATES, AND FINANCIAL INTERMEDIATION](https://www.imf.org/-/media/files/publications/gfsr/2017/april/ch02-4thproofs-040517-v2.pdf)

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### Prolonged low-rate, low-growth environment: characterization
- Advanced economies have experienced a prolonged episode of low interest rates and low growth since the global financial crisis.
- From a longer-term perspective, real interest rates have been on a steady decline over the past three decades.
- Recent signs of an increase in long-term yields, particularly in the United States, do not guarantee an imminent and permanent exit from a low-interest-rate environment (experience of Japan).
- Slow-moving structural factors, notably population aging and slower productivity growth common to many advanced economies, could conceivably generate a steady state of lower growth and lower nominal and real interest rates.

### Key consequences for the financial sector (long-term, abstracting from monetary policy and temporary effects)
- Prolonged low-interest-rate environment would present a considerable challenge to financial institutions.
- Yield curves would likely flatten, lowering bank earnings and presenting long-lasting challenges for life insurers and defined-benefit pension funds.
- If bank deposit rates cannot drop (significantly) below zero, bank profits would be squeezed even further.
- Smaller, deposit-funded, and less diversified banks would be hurt most, which could increase the pressure to consolidate.
- As banks reach for yield at home and abroad, new financial stability challenges may arise in their home and host markets.
- These hypotheses are supported by the experience of Japanese banks.

### Implications for credit demand and banking business models
- Low growth and aging populations would likely lower credit demand by households and firms.
- Household demand for liquid bank deposits and transaction services would likely increase.
- Domestic banking in advanced economies may generally evolve toward provision of fee-based and utility services.

### Implications for pensions, insurers, and asset management
- Pension arrangements and the products and business models of life insurers would likely change significantly in the long term.
- Defined-benefit pension plans provided by employers would tend to become less attractive relative to defined-contribution plans, which offer more portability.
- Rising longevity would likely boost the demand for health and long-term care insurance.
- Demand for guaranteed-return, long-term savings products offered by insurers could be expected to weaken.
- Demand for passive index funds offered by asset management firms would likely grow.

### Policy recommendations and prudential implications
- Policies could help ease adjustment to a prolonged low-rate, low-growth environment.
- Prudential frameworks would need to provide incentives to ensure longer-term stability instead of falling prey to demands for deregulation to ease the short-term pain.
- For banks:
  - Policies should help facilitate smooth consolidation and exit of nonviable institutions.
  - Policies should limit excessive increases in risk taking.
  - Policies should ensure that the too-big-to-fail problem does not worsen.
- For insurers:
  - Implementing economic solvency requirements that encourage life insurers to undertake necessary adjustments to their business models would be vital.
- For asset management:
  - Surveillance and regulation of asset management activities would become more important as this industry’s share in the financial sector grows.

*Source: ch02-4thproofs-040517-v2 (chapter summary).*

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_Source: https://www.imf.org/-/media/files/publications/gfsr/2017/april/ch02-4thproofs-040517-v2.pdf_