Negative interest rates are uncalled for in today’s strong economy

During President Trump’s meeting with Federal Reserve Chairman Jerome Powell and Treasury Secretary Steven Mnuchin on Monday, the subject of negative interest rates was reportedly discussed.

But how likely is it that the Federal Open Market Committee, in the foreseeable future, will set the policy rate below zero? Not at all likely, in my opinion, even while a negative rate environment is becoming the norm among advanced economies.

Bloomberg recently reported that global investment-grade debt yielding a negative rate of interest is approaching $17 trillion. Bloomberg also recently published a table showing fourteen countries – sovereign debt issuers – whose government debt carries a negative yield. All except Japan are in Europe. Of the 14, 11 had debt outstanding with negative yields out to maturities of 10 years, and three had debt with a negative yield out to 30 years.

Negative interest rates – where investors pay interest for the safekeeping of principal – amounts to a last resort monetary policy to pull an economy out of stagnation. To say this is not normal is to state the obvious. When an institution or citizen lends to the government, receipt of interest is the normal expectation, not the opposite. 

Policymakers try negative rates only when economic prospects are extremely worrying. The negative interest rates policy in Europe and Japan is an experiment. The policy trade-off is one of the stimulative benefits of short-term economic shock treatment versus unknown long-term consequences.

Potential long-term effects of negative rates include damage to the banking system, the insurance industry and the pension system. Close observers of the effects of negative rates abroad are sending us cautionary signals. The U.S. pension system, to cite one area of concern, is already stressed, especially public pension funds. Negative rates would worsen what is already seen as a slow train wreck.

Fortunately, our Fed policymakers are in the happy position of watching and learning from the experimentation of foreign central banks. The United States economy does not require such an aggressive measure to extend the current expansion and preserve low unemployment. Our economy is currently growing at around 2 percent a year. 

That is close to the pace of growth many economists consider most plausible given demographic reality and the trend rate of growth of labor productivity. Official unemployment is 3.6 percent. Inflation is a little lower than the Fed would prefer, but stable. All things considered, the economy is performing solidly, not stagnating.

There are some weak spots across the economy, but this is to be expected in an economy growing in the aggregate at a modest pace. For example, business investment is disappointing at present. To generalize, business leaders are holding off on major investment projects. But businesses are not backing off investment spending because of the cost of capital. Interest rates are low and equity markets are at record highs.

The cost of money for investment is not the problem. A better explanation is the environment of heightened uncertainty brought on by trade conflicts, weak demand elsewhere in the world and major political questions such as Brexit. Brexit weighs on domestic investment appetite not so much for its direct impact on U.S. activity but for what it might represent in a world seeming to shift to populism, economic nationalism and protectionism.

The U.S. Treasury is issuing debt in unparalleled amounts to cover the budget deficit.

This is aided by the willingness of foreign investors to buy our national debt, in turn aided by the relative attractiveness of positive yields. Continuing demand for our Treasury securities reflects our economy’s better growth prospects, as compared to Europe and Japan. It’s a sensible policy goal to preserve foreign investor demand for our government bonds. 

It would be extremely unwise to blunt investment flows in our direction as the growth of our national debt is accelerating.

The current state of the economy does not call for negative interest rates. Far from it. And we should not wish for economic conditions that would justify use of such a drastic policy tool.

Dennis Lockhart is former president and CEO of the Federal Reserve Bank of Atlanta and distinguished professor of the practice, Nunn School of International Affairs at Georgia Tech.