Fed's Waller ponders future path of underlying interest rates

R-star is the interest rate that neither stimulates nor restricts the economy when is at the U.S. central bank's target. While it's a rate that moves slowly and can't be measured with precision and is bound by uncertainty, the concept nevertheless helps explain how stimulative or restrictive is at a given time.

Waller said R-star has seen a long-term decline due to a number of factors. Among them have been strong for U.S. government debt in a world where terms had been liberalizing, regulation changes, falling inflation and less volatile . But with demographic shifts and other forces at play, including accelerated borrowing, many officials have wondered if R-star will rise in the future.

If it did, it would herald a new higher interest rate environment and suggest monetary policy will feature higher short-term borrowing costs than the rock-bottom levels seen in years preceding the COVID-19 pandemic. That said, some Fed officials, acknowledging the challenge of measuring R-star, have argued it's not a key factor in their near-term monetary policy considerations.

A key factor in the decline of R-star, Waller noted, has been higher demand for Treasury debt issuance compared to supply. But ballooning coupled with other factors could be changing that calculus.

"If the growth in the supply of U.S. Treasuries begins to outstrip demand, this will mean lower prices and higher yields, which will put upward pressure on R-star." But he added that "only time will tell how large a factor the U.S. fiscal position will be in affecting R-star."

Waller did not comment on monetary policy or the interest rate outlook in his remarks.

The Fed governor noted that he does not see the dollar at risk of losing its preeminent status in global finance.

"Notwithstanding the drumbeat of warnings from some that the U.S. dollar is in danger of losing its primacy in global trade and finance, it remains by a very large margin the world's reserve currency," he said. "U.S. government debt, likewise, remains the primary form of low-risk asset, which is reflected in the huge stock of Treasury securities held as around the world."

But he also said the current path of U.S. government borrowing can't be sustained indefinitely.