The yield on the 5-year U.S. Treasury note, the true approximation of the neutral rate, settled at 4.40% on Friday, marking the highest close since June 2008. The neutral rate is elusive but determinant in estimating whether the Fed’s policy rate is too high or too low to keep the economy in an acceptable equilibrium, that’s neither hot nor cold. I prefer a market-based estimate of the neutral rate over academic ones because the former tends to incorporate perceptions of demographics, inflation and productivity quicker and perhaps more accurately than the later.
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By Hubert Marleau