The Fisher hypothesis and its implications for defined benefits

Asset liability management is often employed for managing the risks associated with defined benefits. Liability Driven Investment is a recent phenomenon in financial circles, promising a coherent framework for achieving this aim. It has been focused on managing interest rate risks by appropriate debt strategies. However the formulation of debt strategies needs to take explicit account of one characteristic that affects most liabilities, namely inflation. This factor generates as much risk as interest rates; moreover it is intimately related to them. We examine this issue in depth, and consider the economic relationships between interest rates and inflation. This is conducted in the light of the Fisher Hypothesis. We show that this analysis has significant implications for nominal debt strategies.