Federal Reserve "third-in-command": The era of low neutral interest rates "seems far from over"

Following the dovish signals released by Powell, the "third-in-command" of the Federal Reserve expressed important views on the long-term anchor point of interest rates—the neutral interest rate (r-star).

On Monday, August 25, John Williams, President of the New York Fed, clearly stated in a speech prepared for a meeting of the Central Bank of Mexico that there is almost no evidence showing that the neutral interest rate has significantly rebounded from its low pre-pandemic levels, and he indicated that "the era of low r-star seems far from over."

The "neutral interest rate" (r-star) is a core concept in economics, referring to the theoretical interest rate level that neither stimulates nor suppresses economic growth.

Williams stated that the powerful structural forces that have continuously suppressed global interest rates over the past few decades have not disappeared, namely, "the global demographic structure and productivity growth trends that push r-star downward have not reversed." He suggested that the current neutral interest rate may not be significantly different from that before the pandemic.

He cited data indicating that after adjusting for growth factors, the neutral interest rates in the United States, Eurozone, United Kingdom, and Canada are currently around 0.5%, similar to pre-pandemic levels. This set of data provides factual support for his "long-term low interest rate" view, implying that once the current inflation pressures completely dissipate, interest rates may return to a lower platform.

The timing of Williams' statement is subtle, coming right after Fed Chair Powell's speech at the Jackson Hole Global Central Bank Conference last Friday. At that time, Powell opened the door for a rate cut at the Fed's September meeting due to signs of weakness in the labor market.

Powell's speech focused on the flexibility of short-term policy, while Williams' analysis provided the market with a framework for thinking about the long-term path of interest rates. This "combination of long and short" signals reveals the complex considerations within the Federal Reserve.

It is noteworthy that there are differences within the Fed regarding the precise level of the neutral interest rate. Reports indicate that the median estimate of the neutral interest rate among policymakers has risen from 2.5% pre-pandemic to 3% in the forecasts released in June 2025, but the forecast range varies from 2.5% to nearly 4%, indicating significant uncertainty.

Williams' clear statement can be seen as a strong rebuttal to the view that "high interest rates will be the new normal." Nevertheless, Williams also remained cautious, reminding policymakers to avoid "overconfidence" in the precise estimation of the neutral interest rate. According to the published speech, he did not comment on short-term monetary policy or the economic outlook.

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