Global Interest Rates & Central Bank Policy
Central banks delivered the most aggressive tightening in 40 years, raising rates 450+ basis points (2022-2023) to combat 8.7% inflation. Fed funds rate 5.25%, highest since 2001. Rate cut cycle beginning in 2026 as inflation moderates to 3.7%. Bond yields elevated—US 10-year 4.2%, mortgage rates 6.8%.
Key Interest Rate Insights
Historic Tightening Cycle Complete
Federal Reserve raised rates 525 basis points (0.25% to 5.50%, March 2022-July 2023)—fastest pace since Volcker era (1980). ECB hiked 450bp (0% to 4.50%), BoE 525bp (0.10% to 5.25%), Canada 475bp, Australia 425bp. Synchronization unprecedented—90% of central banks tightening simultaneously. Terminal rates: Fed 5.50%, ECB 4.50%, BoE 5.25%—highest in 15+ years. Delivered 25bp cut March 2026, signaling shift. Markets pricing 3-4 cuts (75-100bp) by year-end but "data-dependent"—core inflation 3.4% still sticky.
Quantitative Tightening Shrinking Balance Sheets
Fed balance sheet $7.1T (down from $9.0T peak April 2022), ECB €6.8T (down from €8.8T), BoJ ¥736T (stable), BoE £715B. Quantitative tightening (QT) running $95B/month (Fed), €25B (ECB)—passively letting bonds mature. Removed $1.9T liquidity from system since 2022. QT tightening financial conditions beyond rate hikes—mortgage spreads +150bp, corporate bond spreads +80bp. Regional bank crisis (March 2023) showed fragility—Silicon Valley Bank, Credit Suisse failed. Fed slowing QT to $60B/month, cautious on financial stability.
Housing Markets Frozen by High Rates
30-year mortgage rates 6.8% (US), up from 3.0% (2021)—2.3× increase crushing affordability. Monthly payment on $400k loan: $2,600 (6.8% rate) vs $1,690 (3% rate)—54% higher. Home sales collapsed 35% from 2021 peak. Existing inventory dried up—homeowners locked into 3% mortgages refusing to sell and refinance at 7%. New construction slowed but better than resales. Prices resilient down just 8% from peak due to supply shortages. Rent inflation 5.2% as buyers priced out stay renters. Affordability worst since 2006—median home 7.8× median income vs 5.6× historically.
Divergence: Japan Finally Exits Negative Rates
Bank of Japan ended negative interest rate policy March 2024 after 8 years (-0.1% to 0.1%), first hike since 2007. Raised to 0.25% (October 2024), 0.50% (January 2026)—still ultra-accommodative. Inflation finally sustained above 2% target (2.8% in 2026) after decades of deflation. Yen strengthened 8% on rate differential narrowing. Yield curve control abandoned—10-year JGB yield jumped 0.8% to 1.2%. Japan hiking while rest cutting = policy divergence. Carry trade (borrow yen, invest high-yield) unwinding. BoJ cautious—decades of deflation psychology, massive debt (237% GDP).
Major Central Bank Policy Rates 2000-2026
Key interest rates over time (%)
Key Finding: Fed cut to 0-0.25% (2008 crisis, 2020 pandemic), raised to 5.50% (2023). ECB negative rates 2014-2024 (-0.50% to 4.50%). BoE similar path. BoJ negative 2016-2024, now 0.50%. Current rates highest since 2007 pre-financial crisis. Zero/negative rate era (2008-2022) ended abruptly. Volcker-era rates (20%+ in 1981) put current tightening in perspective—still historically low.
Current Policy Rates by Country 2026
Central bank benchmark rates (%)
Key Finding: Emerging markets higher: Brazil 10.75%, Mexico 10.25%, South Africa 8.0%, India 6.50%, Russia 16% (wartime economy). Developed lower: USA 5.25%, UK 5.0%, Canada 4.50%, Euro 4.0%, Australia 4.10%, Japan 0.50%, Switzerland 1.50%. Turkey 50% (hyperinflation, unorthodox policy). Argentina 118% (crisis). Rates reflect inflation expectations, currency stability, growth outlook, fiscal conditions. Real rates (nominal - inflation) increasingly positive after years negative.
US Treasury Yield Curve 2026
Yields by maturity (%)
Key Finding: 3-month 5.35%, 2-year 4.55%, 5-year 4.38%, 10-year 4.20%, 30-year 4.45%. Curve normalized from inversion—2-10 spread +35bp (positive). Inverted curve (short > long rates) occurred 2022-2023, predicted recession. Steepening reflects rate cut expectations (short rates falling) and term premium (long-term uncertainty). 10-year at 4.2% historically elevated vs 2% average 2010-2020 but low vs 1980s (10-15%).
Global Central Bank Balance Sheets 2008-2026
Total assets ($ trillions)
Key Finding: Combined balance sheets: $3.2T (2007) → $9.0T (2008 QE1) → $21.8T peak (2022 pandemic QE) → $18.5T (2026 QT). Fed $7.1T, ECB $8.2T, BoJ $5.8T, BoE $1.0T, PBoC $5.4T. QE expanded 580% (2007-2022). QT removed $3.3T but still 480% above pre-crisis. Asset purchases suppressed yields—"portfolio balance channel." Exit challenging without market disruption. Permanent expansion likely.
Real Interest Rates 2026
Policy rate minus CPI inflation (%)
Key Finding: USA 2.85% real (5.25% rate - 2.4% CPI), Euro 1.2%, UK 1.9%, Canada 1.8%, Australia 0.8%. Positive real rates first time since 2019—were deeply negative 2020-2023 (Fed 0% vs 8% inflation = -8% real). Restrictive policy when real rate > neutral (~0.5%). Current 2-3% real rates dampening demand, supporting disinflation. Emerging markets: Brazil 5.5% real, Mexico 5.3% (very tight). Turkey -17% (50% rate, 67% inflation).
Mortgage Rates vs Fed Funds Rate 2000-2026
US 30-year mortgage and policy rate (%)
Key Finding: Mortgage rates 6.8% vs fed funds 5.25%—spread 155bp (normal 180bp). 30-year mortgages peaked 7.8% (October 2023), fell to 6.2% (January 2024), rose back to 6.8%. Lagged fed funds by 6-12 months. Record low 2.65% (January 2021) created refinancing boom—60% of mortgages under 4%. Current 6.8% freezing housing market. Every 1pp rate increase = 10% drop in purchasing power.
Understanding Interest Rates
What Are Interest Rates?
Interest is the cost of borrowing money or return on lending. Central banks set short-term policy rates to influence economic activity and inflation. Banks charge higher rates on loans (mortgages, credit cards) and pay lower on deposits—spread is profit. Rates affect everything: borrowing costs, savings returns, currency values, asset prices, economic growth.
Key Policy Rates
- Fed Funds Rate (USA): Overnight rate banks charge each other for reserves. Target range set by FOMC 8 times yearly. Influences all other US rates.
- ECB Deposit Rate (Europe): Rate paid on bank deposits at ECB. Main policy tool. Was negative 2014-2024 to stimulate lending.
- Bank Rate (UK): BoE's main rate, similar to fed funds. Set by Monetary Policy Committee monthly.
- Discount Rate (Japan): BoJ policy rate. Was negative (-0.1%) 2016-2024 to fight deflation.
Transmission Mechanism
Central banks raise rates → Banks increase lending rates → Mortgages, auto loans, business credit costlier → Consumers/businesses borrow less → Spending declines → Demand falls → Inflation cools. Cuts reverse process—stimulate borrowing, spending, growth. Lags 6-18 months—"long and variable" (Friedman). Rate changes affect expectations immediately but real economy slowly.
Yield Curve
Graph plotting bond yields by maturity. Normal: Upward sloping (long rates > short)—compensates for time risk. Inverted: Short > long—predicts recession (occurred before last 8 recessions). Flat: All maturities similar—transition state. 2-10 spread most watched: Positive = growth expected, negative = recession fears. Inversion 2022-2023 signaled slowdown risk but recession avoided (so far).
Real vs Nominal Rates
Nominal: Stated rate (e.g., 5% mortgage). Real: Nominal minus inflation (5% rate - 3% inflation = 2% real). Real rate determines actual cost/return after purchasing power erosion. Negative real rates (0% policy with 8% inflation = -8%) incentivize borrowing, spending, asset speculation—fueled 2020-2021 boom. Positive real rates (5% policy with 2% inflation = 3%) discourage borrowing, support saving—current situation slowing economy.
Quantitative Easing (QE) and Tightening (QT)
QE: Central bank buys bonds (government, mortgage-backed) to inject money, lower long-term rates. Used when policy rates hit zero ("lower bound"). Fed bought $4.5T (2020-2022). QT: Reverse—let bonds mature without reinvesting. Drains liquidity, raises rates. Fed running $95B/month QT (2022-2024), slowed to $60B. QE inflated asset prices; QT deflating. Side effects: inequality (asset owners benefit), addiction (hard to exit), financial instability (rapid shifts risky).