Very low interest rates may return, Fed analysis finds, with major ramifications
Zachary Halaschak
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The era of higher interest rates may not last long if a new analysis from the Federal Reserve Bank of New York is accurate.
The regional Fed bank published estimates on Friday finding that the short-term interest rate that would go along with stable inflation and employment is under 1%. That is far lower than the Fed’s current target of 5% to 5.25%.
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“There is no evidence that the era of very low natural rates of interest has ended,” New York Fed President John Williams said in discussing the research at a conference in Washington, D.C.
The estimates, which are based on complicated statistical techniques, have major implications for monetary policy and the federal government’s budget. The Fed has been jacking up interest rates to curb inflation. But the analysis published Friday suggests it will soon have to reverse course and lower rates quickly, or else risk a recession.
It also suggests it may be easier than expected for the Treasury to afford payments on the rising national debt. The higher interest rates of the past few months have driven up interest costs on the debt to the highest levels in a generation. If the interest rate environment becomes more favorable, those costs will abate.
Williams said the modeling shows the natural rate of interest, economists’ term for the rate of short-term interest at which inflation and employment are stable, is as low as it was prior to the pandemic and is projected to go even lower.
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Former Treasury Secretary Larry Summers recently suggested the odds of a recession are at 70% in the next year, the Conference Board’s Leading Economic Index predicts a recession will hit sometime in the middle of the year, and the Fed’s probability modeling indicates about a 68% chance of a recession in the next 12 months.