FOMC Communication: What a Long, Strange Trip It's Been

Following their January 2019 meeting, the Federal Open Market Committee (FOMC) came in for intense criticism. Instead of a truculent President complaining about tightening, this time it was financial market participants grumbling about a sudden accommodative shift. In December 2018, Fed policymakers’ suggested that, if the economy and market conditions evolved as expected, they probably would raise interest rates further in 2019. Faced with changes in the outlook, six weeks later they altered the message, suggesting that going forward, monetary easing and tightening were almost equally likely.

We find the resulting outcry difficult to fathom. The FOMC’s perceptions of the outlook may have been incorrect in December, in January, or both. There are myriad ways for economic and market forecasts to go wrong. But, to secure their long-run objectives of stable prices and maximum sustainable employment, isn’t it sometimes necessary for policymakers to change direction, and when they do, to explain why?

The point is that the recent turmoil arises at least in part from the Fed’s high level of transparency. In this post, we summarize the evolution of Federal Reserve communication policy over the past 30 years, and discuss the importance and likely impact of these changes. While transparency is far from a panacea, we conclude that the evolution has been useful for making policy more effective and sustainable, and remains critical for accountability and democratic legitimacy….

Steve Cecchetti and Kim SchoenholtzFebruary 4, 2019FOMC, FOMC meetings, Federal Open Market Committee, Federal Reserve, Communications, Policy communication, Minutes, FOMC statements, Press conferences, Monetary policy, Interest rate policy, Policy uncertainty, Policy effectiveness, Credibility, Accountability, Legitimacy

Navigating in Cloudy Skies

Stargazers hate clouds. Even modest levels of humidity and wind make it hard to “see” the wonders of the night sky. Very few places on our planet have consistently clear, dark skies.

Central bankers face a similar, albeit earthly, challenge. Even the simplest economic models require estimation of unobservable factors; something that generates considerable uncertainty. As Vice Chairman Clarida recently explained, the Fed depends on new data not only to assess the current state of the U.S. economy, but also to pin down the factors that drive a wide range of models that guide policymakers’ decisions.

In this post, we highlight how the Federal Open Market Committee’s (FOMC’s) views of two of those “starry” guides—the natural rates of interest (r*) and unemployment (u*)—have evolved in recent years. Like sailors under a cloudy sky, central bankers may need to shift course when the clouds part, revealing that they incorrectly estimated these economic stars. The uncertainty resulting from unavoidable imprecision not only affects policy setting, but also complicates policymakers’ communication, which is one of the keys to making policy effective….

Commentary

Money, Banking, and Financial Markets