Economic recovery and inflation risk: what is the “price” to manage debt?

Abstract

It is clear the action of policy makers aimed at supporting the economic recovery, holding up consumption in the short term as well as public investments in the long terms. Furthermore, policy makers exploit a favorable monetary policy as long as inflation allows it. This effect can be surely considered a current and future issue that impacts on the levels of government debt, the sustainability and the new Fed overshooting strategy for inflation (AIT) which makes flexible the optimal 2% target. In terms of portfolio management, these effects are very negative considering both the exposure to government debt and the impact on the credit and equity assets. High levels of inflation are certainly useful in order to manage the debt in real terms, but it could turn to be a risk for portfolio management. This study aims to show how these risks linked with inflation can impact on the value of the different types of investment portfolios characterized by different levels of volatility, different asset classes and equity/corporate factor exposures. Through the application of a composite scenario on several variables, ad-hoc stress tests and scenarios, the article shows the key-role of an ex-ante risk management participation for a proper asset-allocation.