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What do neutral rates mean for cash management?

Neutral rates are defined as the level that neither encourages nor deters overall economy activity in a particular country.

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With interest rates in the United States (US) and Europe set to remain above the lows of the previous decade for some time to come, we examine the liquidity considerations facing investors as they manage cash exposures.

As recent years demonstrate, predicting the medium to long term path of interest rates, not least during periods of heightened geopolitical turmoil and uncertainty around global trade, can be a significant challenge.

Central banks in the US, Eurozone, and UK have started to ease monetary policy. Interest rates on both sides of the Atlantic are expected to stabilize at a 'neutral' level, which is expected to be higher than the almost zero rates seen after the Global Financial Crisis in 2008.

What are neutral rates?

Neutral rates are defined as the level that neither encourages nor deters overall economic activity in a particular country. While major central banks in the West raised interest rates in 2022 and 2023 in order to bring inflation under control, they are currently in the process of reducing them to a more balanced level – where borrowing costs are not so high that they stifle economic growth, but not so low as to generate further rises in inflation.

The approach taken by policymakers has been complicated by macroeconomic as well as political factors. For example, economic growth in the eurozone has been weak in comparison with the US, and this has led the European Central Bank (ECB) to cut rates at a relatively rapid pace, taking the main depository interest rate to 2.00% by June 2025.

In the UK, the Bank of England (BoE) has continued to lower the base rate, reducing it to 4.25% by May 2025. But further cuts are thought to be dependent on factors such as the future path of UK inflation, which is forecast to rise later in 2025, as well as domestic economic growth and the global political situation.

Meanwhile, although the US Federal Reserve (Fed) had been expected to reduce rates in early 2025, the resilience of the US economy, combined with uncertainty around the scope and impact of President Trump’s international trade policies, has led Fed Chair Jerome Powell and his colleagues on the Federal Open Market Committee (FOMC) to take a more cautious stance.

As of May 2025, the Fed funds rate in the US was in the range of 4.25%-4.50%, while the uncertainty surrounding President Donald Trump’s tariff policies has led policymakers to suggest that there is a diminishing likelihood of multiple interest-rate cuts this year.1

Cash management strategies when rates are neutral

The prospect of interest rates finding a new equilibrium in the range of 2%-4% means that investors remain under pressure to carefully manage their cash holdings.

Meanwhile, investors who have portfolio exposure to US dollars, Sterling and/or Euros are likely to benefit from working with an investment manager that can keep money markets and central bank activity under constant review in order to control the risk associated with interest-rate movements and other significant financial-market developments.

When rates are at or close to neutral levels, there are a number of further liquidity considerations for investors:

By holding a combination of highly liquid assets, ranging from government debt and repurchase agreements (repo) to commercial paper and certificates of deposit, can help mitigate concentration risk.

In an environment of economic uncertainty, maintaining flexibility through diversified exposures and duration positioning is essential to navigating short-term rate fluctuations**

Investors are likely to be subject to rules that oblige them to maintain minimum liquidity levels. Investors may benefit from the pooled liquidity provided by a money market fund (MMF) which generally offers same or next day access to invested funds

While longer-dated instruments may offer yield enhancement, they also introduce greater duration risk. Investors should balance return objectives with capital preservation and liquidity needs. The active management of MMFs allow them to be dynamic and react to changes in markets. This can lead to the potential for enhanced yield.

How money market funds may meet investor needs

MMFs are a cornerstone of institutional liquidity strategies, offering a blend of capital preservation, daily liquidity and yield potential.

These funds invest in a diversified pool of high-quality, short-term instruments, including but not limited to sovereign and corporate debt, repos, and time deposits, while adhering to stringent regulatory and credit standards depending on the type of MMF.

  • They prioritise capital preservation and liquidity, may generate better returns than bank deposits, and provide broad diversification across a wide range of asset types and countries.
  • MMFs can be tailored to different segments of cash, operational, core, and strategic, based on liquidity needs and investment horizons.
  • Short-term MMFs are ideal for operational cash, offering same-day settlement and ultra-low volatility.
  • Standard MMFs support near-term obligations with enhanced yield potential. Ultra-short bond funds target higher returns for strategic cash by accepting slightly lower liquidity and longer duration.

The use of MMFs can be tailored to each investor’s specific requirements. This means a different approach could be used for different cash segments, such as operational, core and strategic cash balances. Investors should also think about their investment horizon and appetite for risk: ongoing uncertainty around short-term interest-rate movements means that moving into longer-dated investment strategies can lead to considerably higher levels of risk, as well as potentially higher returns.

  • BlackRock’s MMFs investors may benefit from our considerable experience and expertise, as well as our scale. We have almost 50 years’ experience of managing clients’ cash through numerous rate cycles and market events, and we currently manage assets worth over US$931 billion across our global MMFs.2
  • With interest rates set to remain high relative to recent history for the foreseeable future, investors should act to ensure their current cash-management strategies are fit for purpose.

Diversification may not fully protect you from market risk