The End of ZIRP
ZIRP is the Fed’s Zero Interest Rate Policy. The Fed cut the Federal Funds rate to almost zero back in 2008 in order to stimulate the economy in the Great Recession. They have kept the rate at close to zero ever since. Now, after seven years of ZIRP, most people believe the Fed will raise its rate at this week’s meeting. So what does the end of ZIRP mean?
Probably not much. The Fed has repeatedly said their decision to raise the rate is data driven. This means they will not raise rates until economic data shows that the recovery is strong enough to justify higher interest rates.
The Fed is focused on two main data points: the unemployment rate and the inflation rate. With the unemployment rate below 5%, most economists think we are at or very near full employment. Inflation remains stubbornly below the Fed’s target rate of 2%. Haunted by the 1970’s, the inflation hawks on the Fed fear that inflation will come roaring back. The inflation doves, including Chair Yellen, are more worried about a still fragile recovery.
It appears that the Fed members agree on one thing—the rate increases are a one-way street. Once the Fed starts raising the rates, they don’t want to cut again, should the economy stumble. The Fed could pause. The Fed could move more slowly. They just cannot afford to back-track. Not only could that damage the economy, but it would also be an embarrassing mistake.
This explains why the Fed has been dancing around a rate increase for months without making the move. It also explains why the expected rate increase this week will be minimal, and why future rate increases will likely be minimal as well.
So it looks like the end of the longest zero interest rate period in the history of the Fed is going to be a cautious endorsement of existing economic trends, not a game changer.