MNI Fed's Mester: Aging Population Drags Down Long Term Rates

By Jean Yung

     WASHINGTON (MNI) - An aging U.S. population will be a drag on the longer

run equilibrium interest rate, longer run unemployment rate and other features

of the economic environment, trends Federal Reserve officials need to take into

consideration as they formulate policy in the coming years, Cleveland Fed

President Loretta Mester said Thursday. 

     The exact magnitude of the drag on the so-called r-star rate, the interest

rate which neither stimulates nor slows the economy, is uncertain, she said in a

keynote address to the Cato Institute's annual monetary policy conference. Fed

officials already estimate r-star at a historic low of around 2.75%. 

     "Demographic change will result in a slower-growing and older population.

This transition will likely put downward pressure on the growth rate of

potential output, the natural rate of unemployment, and the long-term

equilibrium interest rate," Mester said. 

     "The magnitude of these effects and the timing are uncertain because they

depend on complicated dynamics and the behavior of consumers and businesses." 

     Demographic change could also affect the business cycle and the monetary

policy transmission mechanism, as well as present challenges for fiscal

policymakers, she added. Growing deficits could put upward pressure on interest

rates and crowd out productive investment. 

     "Rising fiscal imbalances are projected to lead to higher government

debt-to-GDP levels, potentially putting upward pressure on interest rates, and

crowding out productive investment." 

     Policies that focus on increasing productivity and labor force growth and

that address growing fiscal imbalances could offset some of the negative

consequences of demographic change for the economy, she said. 

     Mester, who votes on rates next year, did not comment on near-term policy. 

--MNI Washington Bureau; +1 202-371-2121; email: jean.yung@marketnews.com

[TOPICS: MMUFE$,M$U$$$]