Liz Koh: Interest cuts mean tough times for retirees

While the focus of the Reserve Bank's current policy of reducing the OCR is on borrowers, the flip side is that investors are also affected.

One of the key determinants of term deposit rates is the Official Cash Rate (OCR), which is the principal monetary policy tool used by the Reserve Bank to maintain price stability.

Reducing the OCR has a stimulatory affect on the economy, as borrowers take advantage of lower rates to spend more. Eventually the increased demand for goods and services leads to higher inflation.

While the focus of the Reserve Bank's current policy of reducing the OCR is on borrowers, the flip side is that investors are also affected.

Of course the good news is that while interest rates are low, inflation is at a historical low of less than 1 per cent.

Looking ahead, it is clear the Reserve Bank is intent on keeping interest rates low, resulting in a stimulus to the economy that will see inflation increasing over the next two years or so to about 2 per cent.

This is bad news indeed for retirees who are reliant on interest income. The result could be investment returns of less than 1 per cent after tax and inflation. Retired investors should review their strategies and consider alternatives to term deposits. They should be prepared to let go of the notion their retirement capital must be left untouched and their income is restricted to investment returns.

The key financial challenge for retirement is to run down capital in a planned fashion.

These are difficult times for risk-averse investors and careful planning will be required.