The hunt for Goldilocks: central banks search for neutral rates

The hunt for Goldilocks: central banks search for neutral rates

Almost all central bankers in the US and Europe agree rates must rise to tackle soaring inflation. What is open for debate is where they should stop.

Monetary policymakers and markets are trying to assess where lies the “Goldilocks”, or neutral, level of rates — the optimal level where an economy is neither overheating or being held back. But, after almost 15 years of tepid inflation and ultra-low borrowing costs, no one is quite sure what “just right” looks like.

“Everybody is trying to understand where the neutral rate is and where the tightening cycle will end up,” said Camille de Courcel, head of strategy for G10 rates in Europe at BNP Paribas. “It will be the driving factor for rates markets in the coming months.”

The risk is that policymakers get it wrong and let inflation jump out of control by keeping rates too low, or trigger a brutal recession by increasing too much. US Federal Reserve chair Jay Powell has said he hopes for a “softish landing”, but warned last week that raising rates may cause “some pain”. Bank of England governor Andrew Bailey has talked of a “narrow path” to rein in inflation without sending growth into reverse. European Central Bank president