Fitch: Fed Funds rate to reach 3.5% to 4% by 2020

Commenting on the Fitch Ratings' report titled: "Unnatural Real Interest Rates", "With the Fed having now achieved its inflation and employment objectives, becoming more focused on the risk of labour market tightening and starting to discuss the unwinding of its balance sheet, we expect interest rate normalisation will take place by 2020 and that the Fed Funds rate will reach 3.5% to 4%," said Brian Coulton, Chief Economist at Fitch. 

Key highlights:

• This estimate is above the Fed's current "DOTS" projection for the long term and substantially higher than current financial market expectations for US rates in three years' time. It would also imply a sizeable upward shift in bond yields to the 4% to 5% range as long-term expectations for the Fed Funds rate adjust
• The fall in US real interest rates (i.e. nominal rates adjusted for inflation) has been one of the most striking macroeconomic trends over the last decade or so and has gone well beyond what can reasonably be explained by shifts in economic growth or inflation performance
• Fitch's assessment of US potential real GDP growth is around 2%, which would imply a real Fed Funds rate of 2% or slightly below. Given the Fed's inflation target of 2%, this would imply a nominal Fed Funds rate of 3.5% to 4.0% once the current cycle has ended and rates have normalised.