Real rates have been falling well before Great Recession

So what is the normal real rate of interest? Most would argue that the real rate should equal the real rate of growth in the economy. Nominal rates should equal nominal growth. The real rate has been falling along with long-tern real growth rate. Long rates are close to zero and short-rates are negative.

There are a number of implications if we believe this long-run relationship between real rates and growth holds. First, if real growth is going to continue to be slower then the likelihood of a strong upsurge in real rates is low. The threat of nominal rate surge at least from the real rate portion is overblown. Second, there is less control over the economy through the central bank when real and nominal rates are low. The Fed cannot push real rates down because they are at low levels. The zero bound problem limits their choices. They have to engineer inflation to get real rates to decline and fall below zero. If there is too much slack in the economy, it is very hard to get any inflation. Hence, we have no mechanism to increase growth from the monetary authority. The only way to solve the growth problem is through fiscal policy, and here we have gridlock. 

This story suggests that rates are going to be rangebound like Japan over the last two decades.