“Our research shows that neutral rates—which are the estimated levels of real interest rates that would support both full employment and stable inflation—have been driven lower by similar forces across all 24 developed-market economies,” said Roxane Spitznagel, a London-based Vanguard economist. The standout driver has been demographics, which has accounted for roughly half the decline in neutral rates, largely because of the drop-off in the number of new workers entering the workforce.

Investors’ reluctance to take on risk and the global savings glut have also contributed to the decline in neutral rates. Income inequality played a modest role as well.

“Our forecast is for an overall rise in global neutral rates of around 1.1 percentage points over the next decade,” said Alexis Gray, a Melbourne-based Vanguard senior economist, “with all developed-market economies tracing an upward trajectory.”

Demographic dynamics are set to pivot and will soon help lift neutral rates. More new entrants to the workforce will add about 0.2 percentage points to the expected rise for the overall median developed-market neutral rate. 

Three other primary contributors—some shrinkage in the global savings glut, decreased investor risk aversion, and cross-country convergence in income inequality—will be key, adding another 0.85 percentage points to our estimate. 

Although it’s not a direct component of our econometric model, green investment to reach carbon neutrality would most likely boost neutral rates as well.

(It should be noted that our neutral rate forecasts depend on developments to underlying variables, some of which, like demographics, we can be quite certain of, while others, like risk aversion and inequality, we accept more humility in forecasting.)

By region, the starting points and the magnitude of the increases will vary, but we expect to see this general pattern across developed-market economies. 

The secular decline in rates in recent decades has been a key determinant of global fiscal and monetary policy and a tailwind for economic growth and asset returns.

“For investors, the initial transition period to higher neutral rates may bring with it some short-term headwinds for equity and bond prices―higher interest rates result in negative price increases for bonds and, all else equal, reduce equity valuations,” said Adam Schickling, a U.S.-based Vanguard economist. “Over the coming decade, though, once neutral rates reach their new, higher equilibrium, the prospect of higher rates should translate into higher forward-looking asset returns via a higher risk-free rate that bond yields and equity returns are built upon.”