Will the US deploy negative interest-rates?

by Shaun Richards

On Saturday economists  gathered to listen to the former Chair of the US Federal Reserve Ben Bernanke speak on monetary policy in San Diego. This is because those who used to run the Federal Reserve can say things the present incumbent cannot. So let me get straight to the crux of the matter.

The Fed should also consider maintaining constructive ambiguity about the future use of negative short-term rates, both because situations could arise in which negative short-term rates would provide useful policy space; and because entirely ruling out negative short rates, by creating an effective floor for long-term rates as well, could limit the Fed’s future ability to reduce longer-term rates by QE or other means.

It is no great surprise to see a central banker suggesting that the truth will be withheld. But let us note that he is talking about “policy space” in a situation described by the New York Times like this.

While the economy has recovered and unemployment has fallen to a 50-year low, interest rates have not returned to precrisis levels. Currently, the policy interest rate is set at 1.5 percent to 1.75 percent, leaving far less room to cut in the next crisis.

The apparent need for ever lower interest-rates looks ever more like an addiction of some sort for these central planners. Although as ever they are try to claim that it has in fact been forced upon them.

Since the 1980s, interest rates around the world have trended downward, reflecting lower inflation, demographic and technological forces that have increased desired global saving relative to desired investment, and other factors.

As we so often find the truth is merged with more dubious implications. Yes interest-rates and bond yields did trend lower and let me add something Ben did not say. There were economic gains from this period as for example I remember  mortgage rates in the UK being in double-digits. Also higher rates of inflation caused economic problems and it is easy to forget it caused a lot of problems back then. Younger readers probably find the concept of wage-price spirals as something almost unreal but they were very real back then. Yet Ben seems to want to put a smokescreen over this.

Another way to gain policy space is to increase the Fed’s inflation target, which would eventually raise the nominal neutral interest rate as well.

Curious as they used to tell us interest-rates drove inflation, now they are trying to claim it is the other way around! Are people allowed to get away with this sort of thing in other spheres?

Is there a neutral interest-rate?

Ben seems to think so.

The neutral interest rate is the interest rate consistent with full employment and inflation at target in the long run.  On average, at the neutral interest rate monetary policy is neither expansionary nor contractionary. Most current estimates of the nominal neutral rate for the United States are in the range of 2-3 percent.

The first sentence is ridden with more holes than a Swiss cheese which is quite an achievement considering its brevity. If we ever thought that we were sure what full employment is/was the credit crunch era has hit that for six ( for those who do not follow cricket to get 6 the ball is hit out of the playing area). For example the unemployment rate in Japan is a mere 2.2% so well below “full” but there is essentially no real wage growth rather than it surging as economics 101 text books would suggest. Putting it another way in spite of what is apparently more than full employment real wages may well have ended 2019 exactly where they were in 2015.

This is an important point as it was a foundation of economic theory as the “output gap” concept shifted from output (GDP) to the labour market when they did not get the answers they wanted. Only for the labour market to torpedo the concept and as you can see above it was not just one torpedo as it fired a full spread. Yet so many Ivory Towers persist with things accurately described by Ivan van Dahl.

Please tell me why
Do we build castles in the sky?
Oh tell me why
Are the castles way up high?

Quantitative Easing

Ben is rather keen on this but then as he did so much of it he has little choice in the matter.

Quantitative easing works through two principal channels: by reducing the net supply of longer-term assets, which increases their prices and lower their yields; and by signaling policymakers’ intention to keep short rates low for an extended period. Both channels helped ease financial conditions in the post-crisis era.

Could there be a more biased observer? I also note that there seems to be a titbit thrown in for politicians.

The risk of capital losses on the Fed’s portfolio was never high, but in the event, over the past decade the Fed has remitted more than $800 billion in profits to the Treasury, triple the pre-crisis rate.

A nice gift except and feel free to correct me if I am wrong there is still around US $4 trillion of QE out there. So how can the risk of losses be in the past tense with “was”? It is one of the confidence tricks of out era that establishments have been able to borrow off themselves and then declare a profit on it hasn’t it?

Ben seems to have an issue here though. So by buying trillions of something you increase the supply?

and increases the supply of safe, liquid assets.

Forward Guidance

I do sometimes wonder if this is some form of deep satire Monty Python style.

 Forward guidance helps the public understand how policymakers will respond to changes in the economic outlook and allows policymakers to commit to “lower-for-longer” rate policies. Such policies, by convincing market participants that policymakers will delay rate increases even as the economy strengthens, can help to ease financial conditions and provide economic stimulus today.

Another way of looking at it is that it has been and indeed is an ego trip. The  majority of the population will not know what it is and in the case of my country that is for the best as the Bank of England misled by promising interest-rate rises and then cutting them. Sadly some did seem to listen as more fixed-rate mortgages were incepted just before they got cheaper. So we see that if we return to the real world the track record of Forward Guidance makes people less and not more likely to listen to it. After all who expects and sustained rises in interest-rates anyway?


These speeches are useful as they give us a guide to what central bankers are really thinking. It does not matter if you consider them to be pack animals or like the large Amoeba that tries to eat the Starship Enterprise in an early episode of Star Trek as the result is the same. This will be what they in general think.

When the nominal neutral rate is in the range of 2-3 percent, then the simulations suggest that this combination of new policy tools can provide the equivalent of 3 percentage points of additional policy space; that is, with the help of QE and forward guidance, policy performs about as well as traditional policies would when the nominal neutral rate is 5-6 percent. In the simulations, the 3 percentage point increase in policy space largely offsets the effects of the zero lower bound on short-term rates.

Actually if we look at the middle-section “traditional policies” did not work but I guess he is hoping no-one will point that out. If they did we would not be where we are! Also you may not that as I have often found myself pointing out why do we always need more of the same!

Still if you believe the research of the Bank of England interest-rates have been falling for centuries. Does this mean that to coin a phrase they have been doing “God’s work” in the credit crunch era?

global real rates have shown a
persistent downward trend over the past five centuries, declining within a corridor of between -0.9 (safe
asset provider basis) and -1.59 basis points (global basis) per annum, with the former displaying a
continuous decline since the deep monetary crises of the late medieval “Bullion Famine”. This downward
trend has persisted throughout the historical gold, silver, mixed bullion, and fiat monetary regimes, is
visible across various asset classes, and long preceded the emergence of modern central banks.

The catch is that if you are saying events have driven things people might start to wonder what your purpose it at all?