The Efficacy of the FOMC’s Zero Interest Rate Policy

When most people think of the Federal Reserve they think of Ben Bernanke, Alan Greenspan, or Paul Volker and the the decisions that these men have made to help define US monetary policy for the past several decades.  However, that would only be part of the Fed picture.

The Fed is actually made up of several reserve banks spread geographically around the country.  Each bank has its own staff which complete research reports based on data that they compile.

One of the best if not the best Fed bank when it comes to presenting useful data is the Federal Reserve Bank of St. Louis led by James Bullard.  There is a link on their site which allows you to sign up for free data and reports such as this article The Efficacy of the FOMC’s Zero Interest Rate Policy by Daniel Thornton.

In the article Thornton discusses the impact that low interest rates can have on the economy when they are left at abnormally low levels for a long period of time.

• ...in addition to the direct effect on current income, persistently low real interest rates might motivate individuals to save more in an attempt to compensate for lower expected future returns and higher risk. This effect is likely to intensify the longer real rates are abnormally low.
• The problem here is that the interest rate channel of mon¬etary policy has been thought to be relatively weak for a variety of reasons: (i) Policy actions have the largest effect on short-term rates, but longer-term rates, which are much less affected, matter for most spending decisions; (ii) rates on credit cards, revolving lines of credit, and other condi¬tions that would affect consumer spending are relatively insensitive to changes in the policy rate; (iii) businesses say that interest expense is a relatively minor consideration when making investment decisions—the most important consideration is the expected stream of income from the investment; and (iv) much corporate investment is com¬pletely or partially internally financed.
• In any event, if investment spending is sufficiently insensitive to changes in the interest rate and the effect of the Fed’s actions on interest rates is sufficiently weak, the net effect of the FOMC’s persistent zero interest rate policy could hinder economic growth.