Assessing the credibility of central bank signals: The case of transitory inflation

Abstract

We present a novel text-based measure on the credibility of the now infamous signal from the Federal Reserve regarding transitory inflation in 2021. Specifically, we construct a daily sentiment index from an extensive set of news articles. The measure illustrates a declining sentiment of trust in the signal as U.S. inflation persisted and accelerated through 2021. Daily VAR estimates show that credibility diminishes significantly following positive inflation surprises and that negative credibility shocks boost inflation expectations over the short and long-run. • We explore the credibility of the infamous transitory inflation signal. • A text-based empirical measure of credibility is developed with a novel dictionary. • Positive inflation surprises reduce news-derived belief in the signal. • Negative credibility shocks increase inflation expectations at many horizons.