While the Fed could cut interest rates on reserves or adopt quantitative easing — whereby the Fed buys financial assets to inject a more money into the economy — among other policies, Gross said “interest rates are close to rock bottom at the front end of the curve and there’s little the Fed can do there.” (Related: Biggest Holders of U.S. Government Debt).
As interest rates move down to the zero line, there are negative implications, Gross cautioned. Low rates can hurt money market funds, banks, insurance companies and pension funds that are typically used to higher rates, he said.
He added, “There’s a negative twist to the twist, which I don’t think Fed policymakers are factoring in.” Twist refers to the Fed’s Operation Twist, where the Fed buys longer-dated Treasurys to bring down long-term interest rates.
He also warned of the potential for increased leverage in the economy. “As interest rates move lower and lower, and returns on bonds and stocks become limited, the tendency of the system is try and lever, to try to take advantage of the cheap financing and buy anything that produces a return and a yield,” he said. “That’s the danger of low interest rates.”