Financial planning projections peg long-term inflation at 2.1%

Inflation may be soaring now, but FP Canada’s latest projections say financial planners should assume an inflation rate of 2.1% for long-term planning.

FP Canada and the Institut québécois de planification financière (IQPF) published their 2022 Projection Assumption Guidelines on Thursday. The guidelines are designed to help financial planners make projections for 10 years or more.

The latest guidelines come as inflation is at its highest in decades. The annual rate of inflation in Canada hit 6.7% in March, forcing the Bank of Canada to play catch-up with a 50-basis-point rate hike earlier this month.

However, the financial planning associations advised against adjusting the projected inflation rate to reflect the high current reading. Rapidly rising inflation is unlikely to continue for 10 or more years, the report said, and altering the inflation projection would affect the other assumptions for interest rates and investment returns.

“While, under current conditions, it may be tempting to significantly change one assumption, it is unwise to do so given the correlation between classes,” it said.

The report included an addendum showing the consumer price index from 1997 to 2021. As of December 2021, the consumer price index has averaged 2.32% over the last five years and 1.82% over the last 10 years.

“Inflation can show more marked movements in some shorter-term time frames,” the report said. “However, in looking at inflation rates over a longer period, it is noted that previous higher levels are not sustained for the long term.”

The Bank of Canada’s monetary policy report released earlier this month said the central bank expects the annual inflation rate to average almost 6% in the first half of this year and remain well above its control range of 1% to 3% throughout 2022 before easing to about 2.5% in the second half of 2023.

The 2.1% inflation projection in the planning guidelines is up slightly from 2% in last year’s report.

The inflation assumption is based on actuarial reports from the Canada and Quebec pension plans, the latest FP Canada/IQPF survey, and the Bank of Canada’s target inflation rate.

The assumption guidelines also include return projections. The associations project Canadian equities to return 6.3% over the coming decade, compared to 6.6% for foreign developed market equities and 7.7% for emerging market equities.

Fixed-income investments are projected to return 2.8%.

The borrowing rate, which is equal to the return assumption for 91-day T-bills plus 2%, was unchanged from last year’s forecast at 4.3%.

The yearly maximum pensionable earnings growth rate assumption is 3.1%.

Staff

The staff of Advisor.ca have been covering news for financial advisors since 1998.