Monetary Policy by Signal

Abstract

First paragraph: The way in which monetary policy is understood, both in practice and in the theoretical literature, has evolved in significant ways over the last few decades. Most significant, arguably, is an increasing awareness of the importance of the presentation of monetary policy. Central bankers have long been aware of the importance of the signalling effect of interest rate decisions on the one hand (Dow and Saville, 1988), and the care with which official pronouncements should be worded on the other. But it is only recently that there has been public discussion by central banks of the means by which monetary policy decisions are reached (e.g. Bank of England, 1999). At the same time, the theoretical literature has increased its focus on information, and information asymmetries between the monetary authorities and markets, as a critical element determining the outcome of monetary policy decisions. In particular there has been an increased focus on the transparency of monetary policy decision-making (see Geraats, 2002, for a review). But analysis of signals in relation to uncertainty qualifies the case for transparency. The purpose of this paper is to reflect on the signalling aspect of monetary policy in terms of an analysis of uncertainty. In particular, we consider how the central bank signals its own uncertainty.