Monetary Policy Communication Research Articles

Clear, Consistent and Engaging: ECB Monetary Policy Communication in a Changing World

This paper examines the importance of central bank communication in ensuring the effectiveness of monetary policy and in underpinning the credibility, accountability and legitimacy of independent central banks. It documents how communication has become a monetary policy tool in itself; one example of this being forward guidance, given its impact on inflation expectations, economic behaviour and inflation. The paper explains why and how consistent, clear and effective communication to expert and non-expert audiences is essential in an environment of an ever-increasing need by central banks to reach these audiences. Central banks must also meet the demand for more understandable information about policies and tools, while at the same time overcoming the challenge posed by the wider public’s rational inattention. Since the European Central Bank was established, the communications landscape has changed dramatically and continues to evolve. This paper outlines how better communication, including greater engagement with the wider public, could help boost people’s understanding of and trust in the Eurosystem. JEL Classification: E43, E52, E58

Central Bank Communication and Policy Interest Rate

Central bank communications play an important role in the monetary policy. In the inflation-targeting frameworks, central bank communications might guide public to shape inflation expectations and then determine actual inflation rates through which the policy interest rates policy would manage them. This paper studied the impact and central bank monetary policy communications on the policy interest rate. Unlike other studies, this paper uses two stages. First, we estimate the impact of central bank communication on the inflation expectation gap. Second, we use the estimated value of inflation expectation gap to predict the policy interest rate. The study found evidence that economic agents analyse the Governor Board of Central Bank of Indonesia meeting decisions every month to shape their inflation expectation. Therefore, the difference between inflation expectation and actual inflation tends to narrow. The inflation expectation gap affects the policy interest rates in Indonesia. In other words, the policy interest rates can control the inflation rate and anchor expectations as required by the inflation-targeting framework.

The value added of the Bank of Japan's range forecasts

AbstractThis study investigates whether the Bank of Japan's (BOJ's) interval forecast publications have an added value relative to its point forecast publications by focusing on the range forecasts released by its policy board members. We find that the width of the BOJ's range forecasts has additional information for predicting inflation over point forecasts for the policy decision periods of 12–18 months. The predictive power of the range forecast is robust to the state of the economy, the recently introduced negative interest rate policy, and economic uncertainty measures. Furthermore, both the point and range forecasts influence professional forecasts. Our findings suggest that the source of the central bank's influence is closely related to its information content, not to forecasting accuracy. Therefore, range forecasts are important tools for monetary policy communication.

Monetary Policy and Economic Performance Since the Financial Crisis

The analysis in this paper was presented to the Federal Open Market Committee as background for its discussion of the Federal Reserve’s review of monetary policy strategy, tools, and communication practices. The Committee discussed issues related to the review at five consecutive meetings from July 2019 to January 2020. References to the FOMC’s current framework for monetary policy refer to the framework articulated in the Statement on Longer-Run Goals and Monetary Policy Strategy first issued in January 2012 and reaffirmed each January, most recently in January 2019.

Monetary Policy Strategies and Tools: Financial Stability Considerations

This paper examines potential interactions between financial stability and the monetary policy strategies and tools considered in the Federal Reserve’s review of monetary policy strategy, tools, and communication practices. Achieving the Federal Reserve’s goals of full employment and price stability promotes financial stability. A key concern, however, is that with a low equilibrium real interest rate, a low policy rate will be necessary, and in turn, these low rates may contribute to an increase in financial system vulnerabilities. Our analysis suggests that there are typically significant macroeconomic and financial stability benefits of using these tools and strategies, but there are plausible situations in which financial vulnerabilities are such that it would be desirable to limit their use. A clear communications strategy can help minimize financial vulnerabilities. Should vulnerabilities arise, they are often best addressed with macroprudential tools.

The Impact of Monetary Policy Communication in an Emerging Economy

Since the adoption of the inflation targeting framework by Bank Indonesia (BI), monetary policy communication has played an increasingly important role in BI’s policy toolkit. This paper assesses BI’s monetary policy communication from three perspectives: i) its transparency and clarity, ii) its ability to align market expectation and BI’s policy decisions (predictability), and iii) its impact on financial markets. In particular, we assess the impact of BI’s monetary policy practices by focusing on its monetary policy press releases and monetary policy reports. The results show that Bank Indonesia has made significant progress in the transparency of its communication as well as in the institutional framework to support this. Nonetheless, the results also suggest ways in which the impact of communication can be further improved, including by strengthening the clarity of policy messages, its consistency with the policy framework and the depth of the money market.

Monetary Policy and the Management of Uncertainty: A Narrative Approach

In this paper we explore how macroeconomic theory might be augmented, and the practice of monetary policy better understood, if approached through ideas from social and psychological science. A modern, inflation-targeting central bank faces ‘radical’ uncertainty both in understanding the economy and in knowing how best to communicate policy decisions to influence behaviour. We make use of narrative theory to explore these challenges, drawing on fieldwork with the Bank’s regional Agencies and conversations with staff and policy-makers. We find that the intelligence gathered from conversations with businesses is uniquely useful for both the analysis and communication of monetary policy. Such intelligence embodies knowledge about the plans which are making the future. It also provides insights into how economic agents understand the economy they are creating. These insights can help the Monetary Policy Committee to communicate its policy as a narrative the public understands and commits to. We propose further research to advance and test these ideas.

Monetary Policy Expectations, Fund Managers, and Fund Returns: Evidence from China

Although many central banks in the 21st century have become more transparent, Chinese monetary policy communications have been relatively opaque, making it more difficult for financial market participants to make decisions that depend on the future path of interest rates. We conduct a novel systematic textual analysis of the discussion in the quarterly reports of China fund managers, from which we infer their near-term expectations for monetary policy. We construct an aggregate index of manager expectations and show that, as a forecast of Chinese monetary policy, it compares favorably with both market-based and model-based alternative projections. We find that expectations are more accurate for funds that commit more analytical resources, have higher management fees, and with stronger managerial educational background. We also show that fund managers act on these expectations, and that correctly anticipating shifts in Chinese monetary policy improves fund performance. Our results imply that manager skill is an important determinant of fund returns, providing the first evidence from China on a question for which studies of asset management in other countries have reached conflicting conclusions. economy.

A Text Mining Analysis of Central Bank Monetary Policy Communication in Nigeria

This paper employs text-mining techniques to analyse the communication strategy of the Central Bank of Nigeria (CBN) during the period 2004-2019. Since the policy communique released after each meeting of the CBN’s monetary policy committee (MPC) represents an important tool of central bank communication, we construct a corpus based on 87 policy communiques with a total of 123, 353 words. Having processed the textual data into a form suitable for analysis, we examined the readability, sentiments, and topics of the policy documents. While the CBN’s communication has increased substantially over the years, implying increased monetary policy transparency; the computed Coleman and Liau readability index shows that the word and sentence structures of the policy communiques have become more complex, thus reducing its readability. In terms of monetary policy sentiments, we find an average net score of -10.5 per cent, reflecting the level of policy uncertainties faced by the MPC over the sample period. In addition, our results indicate that the topics driving the linguistic contents of the communiques were influenced by the Bank’s policy objectives as well as the nature of shocks hitting the economy per period.

The Impact of Monetary Policy Communication in an Emerging Economy: The Case of Indonesia

Since the adoption of the inflation targeting framework by Bank Indonesia (BI), monetary policy communication has played an increasingly important role in BI's policy toolkit. This paper assesses BI's monetary policy communication from three perspectives: i) its transparency and clarity, ii) its ability to align market expectation and BI's policy decisions (predictability), and iii) its impact on financial markets. In particular, we assess the impact of BI's monetary policy practices by focusing on its monetary policy press releases and monetary policy reports. The results show that Bank Indonesia has made significant progress in the transparency of its communication as well as in the institutional framework to support this. Nonetheless, the results also suggest ways in which the impact of communication can be further improved, including by strengthening the clarity of policy messages, its consistency with the policy framework and the depth of the money market.

Hurdles and obstacles in monetary policy communication. A model for the communication between the central bank and markets

Central bank communication has become an essential part of monetary policy in recent years. Against the background of the zero interest rate policy, conventional monetary policy instruments have lost their effectiveness, and the management of market participants’ expectations by means of appropriate communication has become an essential part of monetary policy. In this paper a new model of the communication process between the central bank and financial market players is elaborated, in particular exploring the obstacles and hurdles in the transmission of information from sender to recipient, empirical data are also reported for several stages of the new model. For efficient expectation management, both the selection of information by the central bank as well as the transmission path of this information is important as indirect communication can lead to information distortions. Last but not least, the recipients of the information, as people with a limited capacity and variable readiness to absorb it, play a central role in determining what information actually reaches them. Appropriate communication that takes these obstacles and the recipients’ psychology into account can thus significantly increase the efficiency of monetary policy

Do monetary policy transparency and central bank communication reduce interest rate disagreement?

AbstractYes. This study produces evidence that monetary policy transparency and communication policy of the Bank of England have information content in reducing disagreement about interest rate forecasts. Different from most extant studies employing the transparency index derived from official documents of the central banks, this study extends the literature by using a recently developed market‐based monetary transparency index. Moreover, this study analyzes forecast disagreement in a multivariate perspective based on survey data of short‐ and long‐term rates over short and long horizons. This study characterizes several patterns on forecast disagreement related to maturities of interest rates, forecast horizons, recessions, forward guidance, credibility, transparency, and communication policy. Interestingly, disagreement among the Monetary Policy Committee in policy rate decisions is associated with lower disagreement among professional forecasters on interest rate outlook, whereas neither announcement of changes in policy rates nor publication of inflation reports affects forecast disagreement. These results have important implications for monetary policymakers in managing market expectations of interest rates.

How does government spending news affect interest rates? Evidence from the United States

This study analyzes the effects of news shocks to U.S. government spending on interest rates, especially long-term interest rates, and investigates the role of agents’ expectations in the propagation of government spending to interest rates. Using large Bayesian vector autoregressive models with sufficient information, we find that news about increases in government spending induce significant increases in both short- and long-term interest rates while the effects of government spending surprise shocks on interest rates are mixed and ambiguous. Government spending news shocks in the baseline model account for around 10% of the variance in forecast errors in long-term interest rates, which is much more important than government spending itself. Using empirical dynamic term structural models, we further decompose increases in long-term interest rates into changes in expectations of future monetary policy and changes in term premiums. We find that an increase in the long-term interest rate after a positive government spending news shock mainly reflects higher expected future short-term interest rates, which demonstrates the importance of the coordination between fiscal and monetary policy communication.

Comment on “Monetary Policy Communication, Policy Slope, and the Stock Market” by Andreas Neuhierl and Michael Weber

This note discusses the article “Monetary Policy Communication, Policy Slope, and the Stock Market” by Andreas Neuhierl and Michael Weber. The authors document that the slope of the fed funds futures curve predicts stock returns one week ahead and is correlated with the tone of Fed Board member speeches over the period 1994–2007. We show that this return predictability is restricted to the subsample from 1999 to 2001, with no evidence of predictability outside of this period. We further point out some issues with the proposed measure of monetary policy tone and show that the positive correlation between tone and the fed funds futures slope is driven by two speeches that, when analyzed in detail, do not appear particularly hawkish.

The Impact of Inflation Anchor Strength and Monetary Policy Transparency on Inflation During the Period of Emerging Market Volatility in Summer 2018

This paper examines the link between foreign exchange dynamics and inflation in developing countries with respect to the degree of inflation expectation anchoring they employed in 2011–2019. Particular attention is paid to analysis of the inflationary consequences of the considerable weakness of emerging markets’ currencies in summer 2018. Analysis of 2011–2019 confirms that inflation accelerates less in reaction to FX weakness in countries with more anchored inflation expectations. However, similar statistically significant differences were not found during the shock of 2018. One way of anchoring inflation expectations is to make monetary policy more transparent. We have updated the central bank transparency index introduced in Dincer and Eichengreen (2007) and confirm that central bank transparency in emerging markets has considerably improved in recent years. Inflation expectations in these countries have been approaching inflation targets as central banks’ policies become more transparent. We also provide some suggestions for improving the quality of monetary policy communication by the Bank of Russia in order to increase its transparency and consequently contribute to a further decrease in inflation expectations.

Monetary policy communication, policy slope, and the stock market

The slope factor is constructed from changes in federal funds futures of different horizons and predicts stock returns at the weekly frequency: faster policy easing positively predicts returns. It contains information about the speed of future monetary policy tightening and loosening, and predicts changes in interest rates and forecast revisions of professional forecasters. The tone of speeches by FOMC members correlates with the slope factor. The predictive power concentrates in times of high uncertainty in line with the pre-FOMC announcement drift. Our findings show the path of interest rates matters for asset prices, and monetary policy affects asset prices continuously.

Monetary Policy, Firms’ Inflation Expectations and Prices: Causal Evidence from Firm-Level Data

We empirically explore the direct and immediate response of firms’ inflation expectations to monetary policy shocks. We use the Bank of Italy’s quarterly Survey of Inflation and Growth Expectations, in operations since 2000, and compare average point inflation expectations of firms interviewed in the days following scheduled ECB Governing Council meetings with those of firms interviewed just before them; we then relate the difference we find to the change in the nominal market interest rates recorded on Governing Council meeting days, a gauge of the unanticipated component of monetary policy communications. We find that unanticipated changes in market rates are negatively correlated in a statistically significant way with the differences in inflation expectations between the two groups of firms and that this effect has become stronger since 2009. We do not find evidence that firms’ pricing plans are affected by these monetary policy shocks nor that firms perceive significant changes in the main determinants of their pricing choices.

On the financial market impact of euro area monetary policy: A comparative study before and after the Global Financial Crisis

Using daily data from thirteen euro area and four non-euro countries covering the years 2000 to 2018, we explore whether the Global Financial Crisis 2008–2010 and the introduction of unconventional monetary policy measures has led to a change in the financial market impact of euro area monetary policy. For this purpose, we construct a conservative measure of monetary policy innovations based on the heteroscedasticity-approach of Rigobon and Sack (2004), and investigate the response of national and euro-wide equity indices, derived volatility indices, as well as of government bond yields. We find that financial market participants respond more strongly to monetary policy after the Global Financial Crisis. Moreover, we find that cross-country differences in the responsiveness of government bond yields correlate with average national unemployment rates and with inflation rates, suggesting that monetary policy communication was more effective in countries that had faced a severe economic downturn.

Forward guidance as a tool of the European Central Bank’s monetary policy

The purpose of this article is to take a closer look at one of the most unconventional instruments of monetary policy which is the Forward Guidance. This instrument is increasingly more often adopted by central banks. What is more, it is also used by the European Central Bank which implemented this approach for the first time in 2013.
 The first part of the article will be focused on presenting a theoretical approach of forward guidance, while the following part will describe examples of implementation of this instrument by the European Central Bank as the new way of communication with the market. The example of forward guidance use by the European Central Bank covers the way of communication of future monetary policy regarding the interest rates.
 The data presented in this paper shows a positive effect of the forward guidance approach. This method of communication has brought a clearer view of monetary policy adopted by the European Central Bank. Moreover it limited some uncertainty showed by the market participants regarding the level of future interest rates. The positive effects of the forward guidance lead not only to the continuous but also widespread use of this approach by the European Central Bank.

Analysing Monetary Policy Statements of the Reserve Bank of India

In this paper we quantitatively analyse monetary policy statements of the Reserve Bank of India (RBI) from 1998 to 2017, across the regimes of five governors. We first ask whether the content and focus of the statements have changed with the adoption of inflation-targeting as a framework for conducting monetary policy. Next, we study the influence of various aspects of monetary policy communication on financial markets. Using natural language processing tools, we construct measures of linguistic and structural complexity that capture governor-specific trends in communication. We find that while RBI’s monetary policy communication is linguistically complex on average, the length of monetary policy statements has gone down and readability has improved significantly in the recent years. We also find that there has been a persistent semantic shift in RBI’s monetary policy communication since the adoption of inflation-targeting. Finally, using a simple regression model we find that lengthier and less readable statements are linked to both higher trading volumes and higher returns volatility in the equity markets, though the effects are not persistent.