When the U.S. economy enters a recession, the Federal Reserve cuts interest rates to spark a recovery.
Over the last three downturns, the Fed has pruned rates by about 5 percent to juice recession-prone economies. With overnight rates now 1.50 to 1.75 percent, the rate-cutting tool’s impact to generate growth when the economy begins to decline is limited.
The Fed has noted that it believes negative interest rates, such as those instituted by central banks in Europe and Asia, can be damaging to the U.S. economy. As noted, we forecast fiscal stimulus tools will have little effect.
One alternative the Fed is pushing is to set limits on the yields of short- and intermediate-term bonds.
Limiting yields would discourage people from parking money in government bonds and perhaps spend it instead to stimulate the economy.
Last October, Fed officials said that this could be an effective, additional way to manage the business cycle.
At the same time, the Fed could continue to buy long-term bonds, driving down the yields.
The price of a bond is inversely proportional to its interest rate. The Fed’s purchase of long-term bonds at premium prices would keep interest rates low well into the future, further reassuring investors.
In 2016, Japan’s central bank committed to purchase 10-year bonds in whatever quantity was necessary to fix the annual yield at zero.
TREND FORECAST: Again, as we have noted, these policies will have, at best, short-term impact in reviving slumping economies and will do nothing to stave off the “Greatest Depression,” which we forecast will hit in 2021.
