Distinguished economist Greg Mankiw has just written on his blog that his formula for setting the federal funds rate “recommended a deeply negative federal funds rate during the recent severe recession.” He continues, “Of course, that is impossible.” No, it isn’t. Negative interest rates are perfectly possible, as most recently shown by the sale of short-term German government bills for negative yields. We don’t seem to be able to rid economics of the myth that interest rates cannot go below zero.
The Federal Reserve is not willing to try them, however, although it has tried many other things. I speculate that this is because the Fed prefers to pursue credit allocation to mortgages through expanding its own balance sheet, in order to try to prop up house prices.