Neutral (natural) interest rate

The "neutral" or "natural" or "equilibrium real rate" is defined as a rate that is consistent with both output at its potential and with stable inflation. It is a monetary indicator used by the ECB in addition to real and nominal interest rates to decide upon policy changes. The natural rate is supposed to be realised if monetary policies do not stimulate or weakens the business cycle. In the US there is a theory that the long-term real interest rate equates to the trend real growth rate of the economy. This is because trend growth will, under equilibrium conditions, match the marginal return on capital (adjusted for risk) and because the marginal return on capital, adjusted for risk, should equate to the long-term real interest rate under equilibrium conditions. The yield curve reflects market expectations about the short rate, plus the balance of savings and investment in the economy. Whereas the short end of the curve is likely to be influenced most by expectations of central bank behaviour, the long end is likely to be influenced more by the balance of supply and investment. However one has also to take into account that the yield curve also reflects expectations of future exchange rate movements and financial risk increases.