Do interest rates affect loss development patterns?

Question

Is there a relationship between interest rates and incurred loss development patterns? I suppose there is a clear relationship between inflation and LDFs, and inflation is historically correlated with interest rates, but removing that effect, is there any other impact interest rates have?

Answer 1

Incurred chain ladder has implicit inflations in LDFs. For long tail lines, I have only seen a couple of “frequency & severity” based models, where historical claims are indexed to the valuation date first. Historical inflation assumptions are normally derived from CPI and/or average weekly earnings data. Future claims size inflation and superimposed inflation is also applied to future “average claim size” and sometimes to IBNR claim counts. Interest rate only affects the discounted reserve, and normally the risk fee rate is derived from the government bond yields with some sorts of interpolations.

Answer 2

Yes LDFs contain some inflationary impact. The other comment covered it well

As a side note, it’s also important to know that inflation is one factor that drives loss trend... but loss trend does not overlap with LDFs, because they cover different time periods. Loss trend brings historical cost to a more current cost level. Then you project those losses into the future (until claims settle) using development factors. This is also a really important thing to know when learning about the relationship between inflation and development factors.