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on Central Banking |
| By: | Junko Koeda (Graduate School of Economics, Waseda University); Bin Wei (Research Department, Federal Reserve Bank of Atlanta) |
| Abstract: | In this paper, we examine the effectiveness of outcome-based forward guidance, a key monetary policy tool that links a central bank’s policy decisions to specific economic outcomes. We develop a novel macro-finance shadow rate term structure model that incorporates unspanned macro factors and an outcome-based liftoff condition. To assess the effectiveness of forward guidance, we propose a novel method that decomposes the shadow rate into components attributable to forward guidance and other unconventional monetary policies. Using maximum likelihood estimation with an extended Kalman filter, we apply the model to both the United States and Japan. Our findings demonstrate that outcome-based forward guidance is effective, delivering significant monetary easing effects on the real economy during both effective lower bound periods of the global financial crisis and the COVID-19 pandemic in the US, as well as during Japan’s era of unconventional monetary policy. |
| Keywords: | forward guidance, effective lower bound (ELB), liftoff, term structure, shadow rate, macro finance, unspanned macro factors |
| JEL: | E43 E44 E52 E58 |
| Date: | 2025–03 |
| URL: | https://d.repec.org/n?u=RePEc:wap:wpaper:2423 |
| By: | Jonathan J Adams (Department of Economics, University of Florida); Symeon Taipliadis (Department of Economics, University of Florida) |
| Abstract: | Some inflation forecast errors are predictable. Economic theory predicts that these belief distortions affect the business cycle. How should monetary policy respond? We investigate this question with a model-free approach using high-frequency monetary policy shocks and a structural VAR method to identify the effects of shocks to belief distortions. Belief distortion shocks are contractionary: if households become overly pessimistic about inflation, then unemployment and deflation follow. Intuitively, the optimal policy response is to ease. This is most effective with short-term rates; we find that a $1$ p.p. increase in the belief distortion is optimally offset by a $0.85$ p.p. surprise interest rate decrease. Monetary policy targeting longer-term rates is less effective but also useful. |
| JEL: | E52 E30 D84 E70 |
| Date: | 2025–03 |
| URL: | https://d.repec.org/n?u=RePEc:ufl:wpaper:001016 |
| By: | Douglas Kiarelly Godoy de Araujo; Nikola Bokan; Fabio Alberto Comazzi; Michele Lenza |
| Abstract: | Word embeddings are vectors of real numbers associated with words, designed to capture semantic and syntactic similarity between the words in a corpus of text. We estimate the word embeddings of the European Central Bank's introductory statements at monetary policy press conferences by using a simple natural language processing model (Word2Vec), only based on the information and model parameters available as of each press conference. We show that a measure based on such embeddings contributes to improve core inflation forecasts multiple quarters ahead. Other common textual analysis techniques, such as dictionary-based metrics or sentiment metrics do not obtain the same results. The information contained in the embeddings remains valuable for out-of-sample forecasting even after controlling for the central bank inflation forecasts, which are an important input for the introductory statements. |
| Keywords: | embeddings, inflation, forecasting, central bank texts |
| JEL: | E31 E37 E58 |
| Date: | 2025–03 |
| URL: | https://d.repec.org/n?u=RePEc:bis:biswps:1253 |
| By: | Diaf, Sami; Zakane, Ahmed |
| Abstract: | Gauging the impact of oil price variations on small, oil-exporting countries has been heavily investigated under the umbrella of monetary policy interventions, using a standard general equilibrium framework. For some countries, the monetary policy coordinates with fiscal policy to deliver a better response to external oil shocks in an attempt to make the economic activity resilient to external backlash. This paper investigates the policy mix effectiveness in a small open economy, namely Algeria, and its ability to mitigate a negative oil price shock, using a DSGE model that maps several frictions found in single-commodity economies as for a managed exchange rate regime, the existence of a foreign exchange market accessible to households and a sovereign wealth fund. Simulations show countercyclical fiscal measures (increase in government spending) coupled with monetary interventions have no expansionary effects on output, but still necessary to maintain a resilient economic activity especially for the non-oil sector. Under the sticky prices assumption, households tend to lower their investment and consumptions levels, in addition of using their foreign currency savings as buffer. This results in alleviating potential pressures on the supply side and preventing possible inflation spikes. Findings confirm the effectiveness of a monetary policy based on targeting export products, to better handle the negative terms of trade shock via a slight exchange rate depreciation. However, the fiscal dominance in the policy-mix leads to the accumulation of public debt, which might require fiscal consolidation during protracted periods of declining oil prices. |
| Keywords: | monetary policy; fiscal policy; exchange rate; oil prices; external shock |
| JEL: | E31 E52 E63 F31 F41 H54 H63 Q35 Q38 |
| Date: | 2025–03 |
| URL: | https://d.repec.org/n?u=RePEc:cpm:dynare:083 |
| By: | Teerapap Pangsapa; Thanaphol Kongphalee; Maneerat Gongsiang |
| Abstract: | This paper examines the complex relationship between monetary policy and household debt dynamics in Thailand. Using a household debt law of motion framework, we decompose changes in the household debt-to-GDP ratio into two key components: net new borrowing and the Fisher effect. Our analysis reveals that monetary policy creates significant intertemporal trade-offs in managing household debt. While monetary easing reduces the debt service burden in the short term, it simultaneously stimulates new borrowing, potentially leading to higher debt accumulation over time. Employing both local projection methods and Bayesian vector autoregression models, we further demonstrate that these policy effects are state-dependent. Monetary policy's long-term trade-off is substantially weaker during high-leverage periods compared to low-leverage environments, suggesting potential policy benefits in high-debt contexts where new borrowing is already constrained. Our results highlight the importance of considering credit cycle conditions when implementing monetary policy. |
| Keywords: | Household debt; Credit cycle; Monetary policy |
| JEL: | E52 G50 |
| Date: | 2025–03 |
| URL: | https://d.repec.org/n?u=RePEc:pui:dpaper:231 |
| By: | Corinna Ghirelli (BANCO DE ESPAÑA); Javier J. Pérez (BANCO DE ESPAÑA); Daniel Santabárbara (BANCO DE ESPAÑA) |
| Abstract: | This paper investigates the relationship between inflation and GDP growth forecast errors and the expected monetary policy stance in the euro area during the monetary policy cycle of 2022-2024, when inflation was well above the ECB’s target. Under rational expectations, forecasts of monetary contractions should be unrelated to subsequent inflation and growth forecast errors. On the contrary, we find that expected monetary policy tightening has been associated with higher than projected GDP growth, suggesting a lower monetary policy effect than that factored in by (ECB/Eurosystem and IMF) forecasters. In other words, forecasters overestimated the monetary multiplier. At the same time, monetary policy tightening has been associated with lower than expected inflation, suggesting an underestimation of the monetary multiplier on inflation. Putting these two stylized facts together implies that forecasters overestimated the sacrifice ratio during the last monetary policy tightening cycle. Our findings suggest that forecasters may have inaccurately perceived the recent inflationary crisis in the euro area as predominantly supply-driven, underestimating its demand-driven component. This led to the belief that monetary policy in the euro area would be exceedingly costly in terms of output. |
| Keywords: | forecast errors, monetary policy multipliers, sacrifice ratio |
| JEL: | C53 E27 E62 E52 E58 |
| Date: | 2025–03 |
| URL: | https://d.repec.org/n?u=RePEc:bde:wpaper:2516 |
| By: | Jonas D. M. Fisher; Leonardo Melosi; Sebastian Rast |
| Abstract: | Professional forecasters’ long-run inflation expectations overreact to news and exhibit persistent, predictable biases in forecast errors. A model incorporating overconfidence in private information and a persistent expectations bias—which generates persistent forecast errors across most forecasters—accounts for these two features of the data, offering a valuable tool for studying long-run inflation expectations. Our analysis highlights substantial, time- varying heterogeneity in forecasters’ responses to public information, with sensitivity declining across all forecasters when monetary policy is constrained by the effective lower bound. The model provides a framework to evaluate whether policymakers’ communicated inflation paths are consistent with anchored long-run expectations. |
| Keywords: | Panel survey data; long-run inflation expectations; rationality; expectation bias; overconfidence; overreaction; central bank communications; anchoring |
| JEL: | E31 D83 E52 E37 |
| Date: | 2025–03 |
| URL: | https://d.repec.org/n?u=RePEc:dnb:dnbwpp:829 |
| By: | Stefano Maria Corbellini |
| Abstract: | This paper analyzes the monetary policy trade-off between defending purchasing power of consumers and keeping moderate debt cost for borrowers, in the framework of a heterogeneous agent New Keynesian open economy hit by a foreign energy price shock. Raising the interest rate indeed combats the loss in purchasing power due to the energy shock through a real exchange rate appreciation: however, this comes at the expense of higher interest payments for debtors. The trade-off can be resolved by adopting a milder interest rate policy during the crisis in exchange for a prolonged contraction beyond the energy shock time span. This interest rate smoothing approach allows to still experience a real appreciation today, while spreading the impact on debt costs more evenly over time. This policy counterfactual is analyzed in a quantitative model of the UK economy under the 2022-2023 energy price hike, where the loss of consumers’ purchasing power and the vulnerability of mortgage costs to higher policy rates have been elements of paramount empirical relevance. |
| Date: | 2025–02 |
| URL: | https://d.repec.org/n?u=RePEc:ube:dpvwib:dp2502 |
| By: | Giovanni Favara; Francesca Loria; Egon Zakrajšek |
| Abstract: | We use Zip code–level Statistics of Income data from the Internal Revenue Service to measure the distribution of income within U.S. metropolitan areas from 1998 through 2019. Exploiting geographic variation in income distribution over time, we study how unanticipated changes in the monetary policy stance shape the subsequent dynamics of income inequality. The results show that monetary policy persistently affects labor income inequality and that these distributional effects are amplified significantly in weak local labor markets. |
| Keywords: | income inequality; distributional impact of monetary policy; high-frequency monetary policy surprises; local labor markets |
| JEL: | E21 E52 E58 |
| Date: | 2025–01–01 |
| URL: | https://d.repec.org/n?u=RePEc:fip:fedbwp:99602 |
| By: | Degryse, Hans; Huylebroek, Cédric; Van Doornik, Bernardus |
| Abstract: | Regulators increasingly rely on supervisory technologies (SupTech) to enhance bank supervision, but their potential role in disciplining bank behavior remains unclear. We address this knowledge gap using unique data from the SupTech application of the Central Bank of Brazil. We show that, after a SupTech event, banks reveal inconsistencies in their risk reporting and tighten credit to less creditworthy firms, effectively reducing risk-taking. This credit tightening in turn has small spillovers on less creditworthy firms borrowing from affected banks. Our results can be explained by a moral suasion channel, offering novel insights into the role of SupTech in bank supervision. |
| Keywords: | Bank supervision, SupTech, Bank risk-taking, Bank lending, Real effects |
| JEL: | G21 G28 |
| Date: | 2025 |
| URL: | https://d.repec.org/n?u=RePEc:zbw:bofitp:314419 |
| By: | Rongyu Wang (Information Research Institute, Qilu University of Technology (Shandong Academy of Sciences) and University of Edinburgh Author Name: Tim Worrall; School of Economics, University of Edinburgh) |
| Abstract: | This paper considers a repeated version of the International Monetary System model of Fahri and Maggiore (2018) without a direct default cost. Issuance of a safe asset by the Hegemon is sustained by a no-default condition that trades off the short-term benefit of default against the continuation value of not defaulting. In this model, it is optimal for the Hegemon to maintain a constant issuance. The constant issuance policy may however, be unstable. In particular, the no-default condition links current issuance to issuance in the previous period. If the Hegemon adopts a simple, but short-sighted, heuristic rule that bases current issuance on the issuance in the previous period, then the constant issuance policy is unstable. If however, the Hegemon uses a heuristic that targets the demand for risky assets from the rest of the world, then the corresponding equilibrium is stable. |
| Keywords: | International Monetary System; Reserve Currency; Safe Asset; Triffen Dilemma; Instability |
| JEL: | C61 F33 G15 |
| Date: | 2025–02 |
| URL: | https://d.repec.org/n?u=RePEc:edn:esedps:318 |