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Wednesday, September 30, 2015

Overly Optimistic Forecast's Have Caused Poor Fed Communication

I think I buried the main point on this one for MoneyWatch. There has been quite a bit of criticism of the Fed's messaging on the timing of a rate liftoff. But while the messaging has been far from perfect, the bigger problem is the Fed's overly rosy forecasts. The Fed's forecasting models generally impose what is known as a stationarity assumption in response to demand-side shocks -- that is, the models have a relatively fast return to full employment baked into them. The rosy forecasts lead the Fed to adopt a relatively hawkish stance that has to be adjusted as more sobering data arrive. Thus, observers see the Fed continually revising its message, putting itself on a different "data dependent" path each time, and the succession of revisions causes observers to conclude that the Fed's messaging is off-base. But if the forecasts had been better, messaging wouldn't be so much of a problem:

Is communication the Fed's big problem?, Commentary: The Federal Reserve has gotten plenty of criticism for its recent communications about its monetary policy intentions. For example, Mark Gilbert at Bloomberg complained that "...the forward guidance policy adopted in recent years by many central banks is in tatters, and is probably doing more harm than good in telling companies and consumers when borrowing costs are likely to rise and at how fast."
Edward Luce at the Financial Times had similar sentiments, concluding that "Ms Yellen has juggled with different types of communication. They call this learning by doing. As the next countdown begins, her goal must be to share her thinking more clearly."
Is the Fed guilty as charged, and why is this important? ...

    Posted by on Wednesday, September 30, 2015 at 08:54 AM in Economics, Monetary Policy | Permalink  Comments (11)


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