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The dynamic effects of forward guidance shocks

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  • Brent Bundick
  • Andrew Lee Smith

Abstract

We examine the macroeconomic effcts of forward guidance shocks at the zero lower bound. Empirically, we identify forward guidance shocks using unexpected changes in futures contracts around monetary policy announcements. We then embed these policy shocks in a vector autoregression to trace out their macroeconomic implications. Forward guidance shocks that lower expected future policy rates lead to moderate increases in economic activity and inflation. After examining forward guidance shocks in the data, we show that a standard model of nominal price rigidity can reproduce our empirical findings. To estimate our theoretical model, we generate a model-implied futures curve which closely links our model with the data. Our results suggest no disconnect between the empirical effects of forward guidance shocks around policy announcements and the predictions from a standard theoretical model.

Suggested Citation

  • Brent Bundick & Andrew Lee Smith, 2016. "The dynamic effects of forward guidance shocks," Research Working Paper RWP 16-2, Federal Reserve Bank of Kansas City.
    • Handle: RePEc:fip:fedkrw:rwp16-02
    DOI: 10.18651/RWP2016-02
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    More about this item

    Keywords

    Monetary policy shocks; Forward guidance; Zero lower bound; Impulse response matching;
    All these keywords.

    JEL classification:

    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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