Posted

January 14, 2014 11:04:24 AM

Date

2013-12

Author

Gavin, William T., Keen, Benjamin D., Richter, Alexander, and Throckmorton, Nathaniel

Affiliation

Federal Reserve Bank of St. Louis, University of Oklahoma, Auburn University, and Indiana University

Title

The stimulative effect of forward guidance

Summary /
Abstract

This article quantifies the stimulative effect of central bank forward guidance—the public announcement of the intended path for monetary policy in the future—when the nominal interest rate is stuck at its zero lower bound (ZLB). We use a global solution to a conventional nonlinear New Keynesian model to show how the forward guidance horizon impacts the stimulative effect. Forward guidance enters our model as news shocks to the monetary policy rule, which commits the central bank to a lower policy rate than its policy rule suggests. The success of forward guidance depends on whether households expect the economy to recover. When households expect a recovery, forward guidance about a future expansionary monetary policy shock lowers the expected nominal interest rate and increases current consumption. A longer forward guidance horizon strengthens this effect, but at a decreasing rate.

Keywords

Monetary Policy; Forward Guidance; Zero Lower Bound; Global Solution Method

URL

http://research.stlouisfed.org/wp/2013/2013-038.pdf

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