Updates from Chicago Booth

Why central banks need to change their message
The US and European central banks thought they could manage their economies by bringing their secretive plans for interest-rate regulation into the light. But they didn’t account for an unreceptive public.
By Dee Gill – A lot of people don’t have a clue what central banks do, much less how the institutions’ ever-changing interest-rate targets ought to affect their household financial decisions. Recent studies, including several by Chicago Booth researchers, find Americans and Europeans oblivious to or indifferent to the targets’ implications.

This is a serious problem for policy makers. For a decade, monetary policy in many developed economies has relied heavily on forward guidance, a policy of broadcasting interest-rate targets that works only if the public knows and cares what its central bankers say.

“The effects of monetary policy on the economy today depend importantly not only on current policy actions, but also on the public’s expectation of how policy will evolve,” said Ben Bernanke, then chairman of the US Federal Reserve, in a speech to the National Economists Club in 2013. At critical times since 2008, forward guidance has been the Fed’s and the European Central Bank’s go-to tool for revitalizing their ailing economies and holding off widespread depression.

Forward guidance usually involves central banks announcing their plans for interest rates, which traditionally were guarded as state secrets. The openness is intended to spur investors, businesses, and households to make spending and savings decisions that will bolster the economy; typically, to spend more money during economic slowdowns and to save more when the economy is expanding.

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Chicago Booth’s Michael Weber and his research colleagues, in several studies, tested the basic assumption that households will respond to forward guidance, and find it flawed. Most people, the researchers conclude, generally do not make spending and savings choices on the basis of inflation expectations. In personal financial decisions—for example, to pay or borrow money for a boat, refrigerator, or renovations, or to sock away funds for rainy days—words from central bankers hardly register. more>

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