It is far too early to judge the effects of the Brexit vote. As the global outlook evolves, it will be important to assess the implications for the U.S. economy, and for the stance of policy appropriate to foster continued progress toward our objectives of maximum employment and price stability.

I am often asked why rates remain so low now that we are near full employment. A big part of the answer is that, at least for the time being, the appropriate level of rates is simply lower than it was before the crisis. As a result, policy is not as stimulative as it might appear to be. Estimates of the real interest rate needed to keep the economy on an even keel if it were operating at 2 percent inflation and full employment--the "neutral rate" of interest--are currently around zero. Today, the real short term interest rate is about negative 1-1/4 percent, so policy is actually only moderately stimulative. I anticipate that the neutral rate will move up over time, as some of the headwinds that have weighed on economic growth ease.

Another likely reason for the decline in the neutral rate is the emergence of the U.S. as chief supplier of safe assets to the world. In an increasingly globally connected world, the search for safety and return occurs globally—meaning that low rates in one country can quickly impact interest rates in other countries. Robert Hall of Stanford University and the Hoover Institution argues that the representation of risk-averse foreign investors in U.S. financial markets has increased and that this trend has contributed to downward pressure on the neutral real rate.
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I am strongly persuaded by arguments that aging demographics in advanced economies, a decline in productivity growth and the continued emergence of the U.S. as a source of safe assets have all contributed to the decline in the neutral rate.

One of the numbers in the Taylor Rule reflects Professor Taylor's estimate of what we sometimes refer to as the neutral level of the fed funds rate. 

It's a level of the fed funds rate that is consistent with the economy operating at full employment. And that's something that, by our estimate, has been very depressed in the aftermath of the financial crisis. Discussions about secular stagnation are very much about what is the level of interest rates that is consistent with the economy operating at full employment.

I'm hopeful that rate will rise over time, although I'm uncertain. But at the moment, most of the divergence between our settings and what would be the higher levels that would be called for merely reflect the headwinds facing the economy since the financial crisis.

I think we are making good progress but if there were to be a negative shock to the economy and I mentioned this in my testimony, starting with very low levels of interest rates, we don't have a lot of room using our traditional tried and true method to respond.

If fiscal policy were more expansionary this neutral level of interest rates, one of the factors that affects what level of interest rates is neutral for the economy keeps it on an even keel. The level would be higher with a different stance of fiscal policy.

While the real return to short-term government debt is low today, the real return to capital does not appear to have declined meaningfully. For this reason we prefer to interpret the low real rate of return on short-term government debt not as reflecting low real returns throughout the economy (as in a simple New Keynesian model), but instead as reflecting an abnormally large liquidity premium on government debt. It is this liquidity premium which is the fundamental factor. We sometimes refer to this conception of the low value of the real return on short-term government debt as r† (“r-dagger”) to distinguish it from the more commonly discussed r* (“r-star”).

One key lesson from these [DSGE] models is that measuring the natural rate of interest or the output gap is hard. However, estimates of the natural rate of interest from a collection of structural models across the Federal Reserve System indicate that the natural rate fell considerably during the financial crisis, became quite negative in its aftermath, and has subsequently recovered only slowly.

The “new normal” for interest rates might be lower than the Fed’s median estimate, San Francisco Federal Reserve President John Williams said at a conference on Monday.

I believe as we move into the second half of the year with economic activity growing at trend or slightly above trend, the unemployment rate below its natural rate, and price pressures starting to assert themselves, policy can truly normalize. I mean this in the sense that we can move away meaningfully from the zero lower bound and that our reaction to incoming data can return to a more historical pattern.

That would not necessarily imply an overly aggressive path for policy. Thus, it will take fewer rate hikes to attain neutrality in policy than it would have 15 years ago. By historical standards, that in itself implies a somewhat shallower path for interest rates than was typical of past recoveries.

The very shallow path [of rate hikes implied by the SEP] also reflects my view that the neutral level of the federal funds rate today is lower than its eventual long-run level. By some estimates, the equilibrium inflation-adjusted rate is currently near zero. The degree of accommodation in actual policy needs to be judged against this benchmark. So the 75 to 100 basis point range for the nominal fed funds rate in the median SEP forecast for the end of 2016 is not terribly far below neutral.

Although estimates vary both quantitatively and conceptually, the evidence on balance indicates that the economy's "neutral" real rate--that is, the level of the real federal funds rate that would be neither expansionary nor contractionary if the economy was operating near its potential--is likely now close to zero...

If these headwinds gradually fade as I expect, the neutral federal funds rate will also rise, in which case it will, all else equal, be appropriate to gradually increase the federal funds rate more or less in tandem to achieve our dual objectives. Otherwise, monetary policy would eventually become overly accommodative as the economy strengthened.

Current estimates of the natural rate of interest in the United States are subject to a fair amount of uncertainty, but most are clustered at or just above zero. This is well above the actual real funds rate, which has been running below negative one. So at this point, estimates of the natural real rate of interest do not suggest that the zero lower bound is impeding the Fed’s ability to attain its 2 percent inflation objective. In fact, this perspective would bolster the case for raising the federal funds rate target.

Compared with the pre-recession “normal” funds rate of, say, between 4 and 4.5 percent, we may now see the underlying r-star guiding us towards a fed funds rate of around 3–3½ percent instead. In fact, some estimates, including those based on my own research with Thomas Laubach, indicate it could even be below 3 percent.

If we are near our employment mandate and the prospects for growth look solid, why are we expecting to take this gradual approach? What is different during this tightening cycle?

One issue is that the equilibrium, or the neutral, federal funds rate can move over the business cycle for a variety of reasons, and can be either above or below its long-run level. Currently, we think some remaining fallout from the financial crisis and international headwinds mean that the neutral level of the federal funds rate today is even lower than it will be in the long run. By some estimates, the equilibrium inflation-adjusted rate is currently near zero. This rate should rise gradually as the headwinds fade over time. But until they do, monetary policy rates must be even lower than they otherwise would be to provide adequate accommodation for economic growth.

A broad deterioration in foreign growth prospects, together with greater risk sensitivity in the wake of the crisis and changes in the rate of potential output growth, may be contributing to a "new normal." The new normal is likely to be characterized by a lower level of interest rates than in the decades preceding the crisis, which counsels a cautious and gradual approach to adjusting monetary policy.
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The slow progress on inflation, together with the likely low level of the longer-term neutral real rate and the slow pace at which the very low shorter-term rate may move to the longer-term rate, suggest that the federal funds rate is likely to adjust more gradually and to a lower level than in previous expansions. In short, "gradual and low" is likely to be the new normal.

FT: We talked earlier this year about raising the inflation target. That doesn’t seem to have gained traction. Are there any other changes to central bank mandates, strategy, that you would want to see?

Rosengren: In the short run getting off the zero lower bound here and abroad should probably be the primary focus of central banks in most of the developed world. We have yet to have a real success story with lifting off the zero lower bound and staying off the zero lower bound. My guess is in the next year that is where we should focus our attentions.
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If there was going to be one lesson I would additionally take it is if you look at the SEP for where the long run nominal fed funds rate will be, it is pretty low rate by historical standards. It is also a low rate relative to how we have reacted when there were negative shocks in a recession. If we are at 3.5 per cent on the federal funds rate that doesn’t give us a lot of ammunition if we have a shock that is the size of a traditional recession in the US. That is something we will have to think more about in time.