A former Federal Reserve official says the central bank may consider negative interest rates if the economic recovery faces obstacles in the wake of the COVID-19 crisis.
Narayana Kocherlakota, who headed the Federal Reserve Bank of Minneapolis from 2009 to 2015, told Yahoo Finance on Monday that he does not expect the Fed to take target interest rates below zero, but said a “very slow” recovery could force a re-think down the line.
“I do think there are outcomes that I can foresee – not this year, but maybe next year -that would lead the Fed to start to think about going negative,” said Kocherlakota, now a professor at the University of Rochester. “That would be very bad news.”
Kocherlakota has previously called on the Fed to take rates negative, writing in mid-May that taking rates even “deeply” negative could provide the stimulus needed to bring down longer-term interest rates.
Under a negative interest rate policy, borrowers would broadly be incentivized to take loans but depositors would broadly be penalized for keeping money stashed away.
The Fed has already pinned interest rates down by slashing short-term interest rates to near-zero. Since the Fed’s interventions, longer-term interest rates have also been pinned down, as low as 57 basis points on the U.S. 10-year Treasury (^TNX).
But as parts of the country have re-opened, so too have expectations for the long-term future, and the 10-year has risen to as high as 90 basis points.
Negative rates unlikely for now
For the Fed’s part, Chairman Jerome Powell has repeatedly swatted down the idea of taking rates below zero.
Last month, Powell said negative interest rates are “not something that we are looking at” and said the viewpoint was shared by others on the policy-setting Federal Open Market Committee as well.
The question of negative rates was advanced by President Donald Trump, who repeated his call for the central bank to follow in the footsteps of the Bank of Japan and the European Central Bank with below-zero rates.
Kocherlakota does not think the Fed will move on negative rates right now, saying that the recovery would have to look ugly for the central bank to consider such a move. For now, he expects the Fed to hold pat on the message that it will use all of its tools to support the economy.
“The Fed is certainly going to be inclined to regard itself as keeping its stimulus in place that it has provided already,” Kocherlakota said.
Brian Cheung is a reporter covering the Fed, economics, and banking for Yahoo Finance. You can follow him on Twitter @bcheungz.
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