Is monetary policy less effective when interest rates are persistently low?

Introduction

Interest rates in the core advanced economies have been persistently low for about eight years now (Graph 1). Short-term nominal rates have on average remained near zero since early 2009 (left-hand panel) and have been even negative in the euro area and Japan, respectively, since 2014 and 2016. The drop in short-term nominal rates has gone along with a fall in real (inflation-adjusted) rates to persistently negative levels. Long-term rates have also trended down, albeit more gradually, over this period: in nominal terms, they fell from between 3–4% in 2009 to below 1% in 2016, on average (Graph 1, centre panel); in real terms, they have been mostly negative since 2012. Indeed, following the adoption of negative policy rates in the euro area, Japan and some smaller advanced economies, at the end of 2016 a significant stock of global government bonds (more than $7 trillion or 20% of the total outstanding)2 was still trading at negative yields, after reaching a peak of over $10 trillion in mid- 2016. For all its prominence, the post-US election backup in yields has so far not fundamentally changed this picture.

From a historical perspective, this persistently low level of short- and long-term nominal rates is unprecedented. Since 1870, nominal interest rates in the core advanced economies have never been so low for so long, not even in the wake of the Great Depression of the 1930s (Graph 2, top panels). Elsewhere, too, including in Australia, short- and long-term interest rates have fallen to new troughs, reflecting in part global interest rate spillovers especially at the long end (Obstfeld (2015), and Hofmann and Takáts (2015)).

The picture is not very different for interest rates measured in real or inflation- adjusted terms (Graph 2, bottom panels). To be sure, there have been periods during which, as a result of high inflation, real rates have been even lower, notably during the Great Inflation of the 1970s. But recently real rates have generally been negative for even longer than at that time.


Interest rates, 1870-2016

In per cent                                                                                                                                                                                                                                                                                Graph 2