Neutral rate (R*) explained: the policy rate that neither stimulates nor restrains
By Ken Chigbo, Founder, KenMacro. Published 2026-05-12.
Quick answer
Neutral rate, written R-star or r*, is the policy interest rate at which monetary policy neither stimulates nor restrains the economy when inflation sits at target. R* is unobserved and estimated, with credible estimates ranging from 0.5 to 1.5 per cent real (around 2.5 to 3.5 per cent nominal at a 2 per cent inflation target). Central banks anchor policy decisions against estimates of R*.
Quick answer
Neutral rate, written R-star or r*, is the policy interest rate at which monetary policy neither stimulates nor restrains the economy when inflation sits at target. R* is unobserved and estimated, with credible estimates ranging from 0.5 to 1.5 per cent real (around 2.5 to 3.5 per cent nominal at a 2 per cent inflation target). Central banks anchor policy decisions against estimates of R*.
What is neutral rate (R*)?
R-star (R*) is a theoretical equilibrium short-term real interest rate at which monetary policy is neither expansionary nor contractionary, with output at potential and inflation stable at target. R* is not directly observable; it is estimated from models like the Holston-Laubach-Williams framework used by the New York Fed. Credible estimates of US R* in 2026 range roughly 0.5 to 1.5 per cent real, depending on the model and the data window. The nominal equivalent (R* plus 2 per cent inflation target) sits around 2.5 to 3.5 per cent. Central banks reference R* in policy statements, with hawkish statements often noting that policy must remain restrictive (above R*) for an extended period.
How traders use neutral rate (R*)
Macro traders use R* as the anchor for assessing whether current policy is restrictive, neutral, or accommodative. A Fed funds rate of 5.25 per cent against a nominal R* of 3.0 per cent implies policy is restrictive by roughly 225 basis points. The size of the restriction governs the medium-term economic drag and the eventual cutting cycle. Currency traders use cross-country R* differences to anchor long-horizon currency views, with higher-R* economies typically supporting stronger currencies over multi-year horizons. The KenMacro macro briefs reference current R* estimates when discussing the policy stance. R* estimates themselves shift over time, particularly after structural events like the post-pandemic productivity-and-labour-participation reset.
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Common misconceptions about R-star
The first misconception is that R* is a precise number. It is an estimate from a model, with confidence intervals routinely covering one full percentage point. The second is that R* is constant. Structural shifts in productivity, demographics, and global savings move R* over decades; estimates have drifted from around 2.5 per cent real pre-2000 to 0.5 to 1.5 per cent real in the 2020s. The third is that all central banks share the same R*. Each economy has its own equilibrium rate, and rate-spread differentials between economies are partly driven by R* differentials.
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Frequently asked
What is the current estimate of US R-star?
Current credible estimates of US R-star in 2026 range from 0.5 to 1.5 per cent real, with nominal equivalents around 2.5 to 3.5 per cent at a 2 per cent inflation target. The Holston-Laubach-Williams model maintained by the New York Fed publishes a quarterly estimate. The figure is revised over time as new data arrives.
Why does R-star matter for currency trading?
Cross-country R-star differentials anchor long-horizon currency expectations. An economy with a structurally higher R-star tends to support a stronger currency over multi-year horizons because real-rate differentials drive capital flows. Short-term currency moves are driven more by policy-rate path than by R*, but the long-horizon anchor is R-star.
How is R-star estimated?
R-star is estimated by structural models that decompose observed short-term real rates into a trend (R*) and cyclical components. The Holston-Laubach-Williams model is the most widely cited. Other estimates come from the Lubik-Matthes model and the dynamic-stochastic general-equilibrium (DSGE) frameworks. All estimates carry meaningful uncertainty bands.
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