In October, Federal Reserve Vice Chairman Stanley Fischer offered remarks concerning the state of the U.S. economy and some reasons for sustained low interest rates. He observed that the real interest rate could be considered the price that balances the economy’s savings reserves with its investment demand.
To explain why interest rates are low, he said the Fed assesses various factors that influence higher savings and reduced investing. According to Fisher, primary forces that have impacted this equilibrium in recent years include:
- A slowed pace of innovation, which reduces opportunities for investment.
- Lower productivity growth, which reduces household consumption and increases the need for savings.
- The “graying” of the population, which is expected to reduce the workforce by about .25 percent in the coming years, furthering the trend for lower productivity and slower labor force growth.
- The increasingly aging population also means that more people are saving for retirement.
- Reduced investment in turn provides companies with less capital to invest in growth, further perpetuating the cycle for less interest in investing.
- Sustained low interest rates and the slow pace of growth abroad means foreign countries offer less appealing investment options as well.
Ultimately, slower productivity growth tends to depress investment and encourage savings, which in turn pushes interest rates lower. The federal funds rate has remained low for quite some time now as the Fed looks for the economy to support its goals for sustainable employment and inflation at a target level of 2 percent.