E61 Policy Objectives; Policy Designs and Consistency; Policy Coordination
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Despite a number of helpful changes, including the adoption of an inflation target, the Fed’s monetary policy strategy proved insufficiently resilient in recent years. While the Fed eased policy appropriately during the pandemic, it fell behind the curve during the post-pandemic recovery. During 2021, the Fed kept easing policy while the inflation outlook was deteriorating and the economy was growing considerably faster than the economy’s natural growth rate—the sum of the Fed’s 2% inflation goal and the growth rate of potential output.
The resilience of the Fed’s monetary policy strategy could be enhanced, and such errors be avoided with guidance from a simple natural growth targeting rule that prescribes that the federal funds rate during each quarter be raised (cut) when projected nominal income growth exceeds (falls short) of the economy’s natural growth rate. An illustration with real-time data and forecasts since the early 1990s shows that Fed policy has not persistently deviated from this simple rule with the notable exception of the period coinciding with the Fed’s post-pandemic policy error.
Central banks sowing the seeds for a green financial sector? NGFS membership and market reactions
(2024)
In December 2017, during the One Planet Summit in Paris, a group of eight central banks and supervisory authorities launched the “Network for Greening the Financial Sector” (NGFS) to address challenges and risks posed by climate change to the global financial system. Until 06/2023 an additional 69 central banks from all around the world have joined the network. We find that the propensity to join the network can be described as a function in the country’s economic development (e.g., GDP per capita), national institutions (e.g., central bank independence), and performance of the central bank on its mandates (e.g., price stability and output gap). Using an event study design to examine consequences of network expansions in capital markets, we document that a difference portfolio that is long in clean energy stocks and short in fossil fuel stocks benefits from an enlargement of the NGFS. Overall, our results suggest that an increasing number of central banks and supervisory authorities are concerned about climate change and willing to go beyond their traditional objectives, and that the capital market believes they will do so.
The forward guidance trap
(2023)
This paper examines the policy experience of the Fed, ECB and BOJ during and after the Covid-19 pandemic and draws lessons for monetary policy strategy and ist communication. All three central banks provided appropriate accommodation during the pandemic but two failed to unwind this accommodation in a timely manner. The Fed and ECB guided real interest rates to inappropriately negative levels as the economy recovered from the pandemic, fueling high inflation. The policy error can be traced to decisions regarding forward guidance on policy rates that delayed lift-off while the two central banks continued to expand their balance sheets. The Fed and the ECB fell into the forward guidance trap. This could have been avoided if policy were guided by a forward- looking rule that properly adjusted the nominal interest rate with the evolution of the inflation outlook.