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Forward guidance

Author

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  • Hagedorn, Marcus
  • Luo, Jinfeng
  • Manovskii, Iourii
  • Mitman, Kurt

Abstract

We assess the power of forward guidance — promises about future interest rates — as a monetary tool in a liquidity trap using a quantitative incomplete-markets model. Our results suggest the effects of forward guidance are negligible. A commitment to keep future nominal interest rates low for a few quarters—although macro indicators suggest otherwise—has only trivial effects on current output and employment. We explain theoretically why in complete markets models forward guidance is powerful—generating a “forward guidance puzzle”—and why this puzzle disappears in our model. We also clarify theoretically ambiguous conclusions from previous research about the effectiveness of forward guidance in incomplete and complete markets models.

Suggested Citation

  • Hagedorn, Marcus & Luo, Jinfeng & Manovskii, Iourii & Mitman, Kurt, 2019. "Forward guidance," Journal of Monetary Economics, Elsevier, vol. 102(C), pages 1-23.
  • Handle: RePEc:eee:moneco:v:102:y:2019:i:c:p:1-23
    DOI: 10.1016/j.jmoneco.2019.01.014
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    References listed on IDEAS

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    1. Matthew Rognlie & Ludwig Straub & Adrien Auclert, 2017. "The Intertemporal Keynesian Cross," 2017 Meeting Papers 1587, Society for Economic Dynamics.
    2. Marcus Hagedorn, 2016. "A Demand Theory of the Price Level," 2016 Meeting Papers 941, Society for Economic Dynamics.
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    8. Nils Gornemann & Keith Kuester & Makoto Nakajima, 2012. "Monetary policy with heterogeneous agents," Working Papers 12-21, Federal Reserve Bank of Philadelphia.
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    Cited by:

    1. Campbell, Jeffrey R. & Ferroni, Filippo & Fisher, Jonas D. M. & Melosi, Leonardo, 2019. "The limits of forward guidance," Working Paper Series WP-2019-3, Federal Reserve Bank of Chicago.

    More about this item

    Keywords

    Forward guidance; Incomplete markets; Liquidity trap;

    JEL classification:

    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
    • E30 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - General (includes Measurement and Data)
    • 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
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy

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