Risk of Fed Hitting Near-Zero Rates Again Is Low for Now, San Francisco Fed Says

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05/13/2019 | 05:14 pm

By Michael S. Derby

The Federal Reserve Bank of San Francisco is pushing back at the rising tide of chatter surrounding prospects of a Federal Reserve interest-rate cut.

In a report Monday, the bank said the chances that the Fed will confront events that push it back to the near-zero rates that prevailed during the financial crisis and its aftermath are low for the time being.

"Analysis using several different approaches suggests that there currently appears to be a low risk of the economy returning to the zero lower bound for at least the next several years," said a report written by San Francisco Fed economist Jens H.E. Christensen.

The Fed has moved from steadily raising short-term rates to shifting to the sidelines at the start of the year, amid concern about the economic outlook in a climate where upward inflation pressures have ebbed to levels well short of the central bank's 2% inflation target.

Currently, the economy is on steadier footing compared with earlier in the year, when worries flared about the possibility of an economic downturn as market volatility increased and growth weakened overseas. Since then, the job market has continued to add workers at a healthy pace and first-quarter growth turned out much stronger than many had predicted. That improved outlook has led many Fed officials to push back against the gloom and flag the economy's ongoing strong fundamentals.

Even so, Fed officials have refrained from suggesting more rate rises are likely. Most have also affirmed they see no case for lowering rates, even though some officials, like Chicago Fed leader Charles Evans, have said persistent weakness in underlying inflation levels could create a case for moving to a more stimulative monetary policy stance.

Financial markets are currently expecting to see a lowering of what's now a fed-funds target rate range that stands between 2.25% and 2.50% by the end of the year. Meanwhile, the bond market's yield curve is again flashing a yellow signal about the future of the economy amid a renewed round of trade tensions between the U.S. and China. That suggests the possibility of rate cuts at some point in the future.

The still-low level of the fed-funds target-rate range keeps alive the likelihood that if the Fed confronted real economic difficulty and eased its monetary-policy stance, short-term rates would quickly hit near-zero levels. Fed officials have already warned that a return to rock-bottom rates is likely when a downturn arrives.

But the San Francisco Fed paper suggests there's not much to worry about right now.

Using bond-market yield data, Mr. Christensen writes that his findings -- in conjunction with the Fed's internal forecasting model and central-bank surveys of major Wall Street banks -- show "the risk of returning to the [zero lower bound] within the next three years is low and should not pose a concern for monetary policy at this time." The author used bond-market data through March 29.

Mr. Christensen says that if anything, the market is still thinking about rate rises and sees about one more increase by the end of the year before rates go down a touch to a longer-run trend of around 2.40%.

Write to Michael S. Derby at michael.derby@wsj.com

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