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Financial market responses to the policy language of forward guidance: Evidence from China

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  • Nie, Li
  • Wang, Yulong
  • Shi, Kai

Abstract

Forward guidance is an innovative unconventional monetary policy tool used to manage expectations. This study not only investigates whether and how forward guidance influences financial markets but also explores its impact on cross-market correlations. Three key findings include: (1) larger absolute change in the tone of forward guidance increases currency market volatility but decreases treasury bond and stock market volatilities. The noise-reducing effect is primarily attributable to forward guidance on economic outlook rather than policy inclination, although their effectiveness has reversed since 2015. (2) A positive change in forward guidance tone decreases currency market interest rate, which is economically negligible, albeit statistically significant. Returns of other financial assets are not responsive to the change in forward guidance tone. (3) Forward guidance significantly influences cross-market correlations though the impacts show heterogeneity. Economic-outlook and policy-inclination forward guidance significantly affect the currency-bond correlation in the same direction while exert differential impacts on bond-stock and currency-stock correlations. Two important implications for expectation management are enhancing coordination between different types of forward guidance as well as improving the efficiency of information transmission in communication.

Suggested Citation

  • Nie, Li & Wang, Yulong & Shi, Kai, 2025. "Financial market responses to the policy language of forward guidance: Evidence from China," Economic Analysis and Policy, Elsevier, vol. 85(C), pages 317-335.
    • Handle: RePEc:eee:ecanpo:v:85:y:2025:i:c:p:317-335
    DOI: 10.1016/j.eap.2024.12.003
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    More about this item

    Keywords

    Forward guidance; Tone; Semantic similarity; Policy inclination; Economic outlook;
    All these keywords.

    JEL classification:

    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G18 - Financial Economics - - General Financial Markets - - - Government Policy and Regulation

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