Hey guys,
When should we use the inflation rate to calculate the minimum required return for DB plan and when should we not? Sometimes, they mention the inflation rate and only use the liability discount rate. This is probably super simple but if anyone could give me the simple rules as to when to include or not, that would be great!
Thanks
it depends if the benefits paid to the retirees are inflation-indexed or not.
Minimum Return = liability discount rate
Anything Higher wanted = include inflation
Hope this helps. The liability discount rate is the minimum rate of return needed to meet future plan liabilities.
Inflation is not related to wanting to grow the surplus, please see my posts in this thread https://www.analystforum.com/forums/cfa-forums/cfa-level-iii-forum/91366559
Inflation is already in the discount rate if liabilities are indexed for inflation. That’s a characteristic of the pension plan and hence the liability cash flows in either real or nominal form, not some economic relationship. The additional return required to grow the surplus is a TVM problem, not simply add inflation.
Thank you for your help everyone! Will read your post Moonborne!
What about the case where retired lives payments are not indexed to inflation, and active participants’ are? Then using the discount rate would not be enough, so we would have to add inflation going forward right?