Fed Study Sees 9% Chance Rates Return to Zero Within Seven Years

The risk that U.S. interest rates could once again fall to the zero lower bound has not disappeared, according to a study released jointly by the Federal Reserve Banks of New York and San Francisco. The paper—co-authored by New York Fed President John Williams—uses pricing in interest-rate derivatives tied to the Secured Overnight Financing Rate to gauge the likelihood of hitting the policy floor. Market-based estimates put the probability of the fed-funds rate returning to zero at about 1% within the next two years and roughly 9% over a seven-year horizon. While those figures are at the lower end of the range seen over the past 15 years, the authors say elevated uncertainty keeps medium- to long-term zero-rate risk ‘significant’. The Fed currently targets a range of 4.25% to 4.5% after aggressive post-pandemic tightening. The study notes that although higher prevailing rates give policymakers more room to cut before reaching zero, renewed economic shocks could still force a return to unconventional tools that were deployed during the 2008 financial crisis and the early stages of the Covid-19 downturn.