The Uncertainty Channel of Monetary Policy Communication

This paper shows that central bank communication reduces monetary policy uncertainty, which in turn generates substantial effects on real economic activity. I construct a novel monthly measure of Federal Reserve communication from 9,298 speeches by FOMC members between 1951 and 2022 and relate it to a newspaper-based measure of U.S. monetary policy uncertainty. To address the simultaneity between communication and uncertainty, I exploit a shift in the volatility of communication associated with the Fed’s transition toward greater transparency in the early 2000s and use the resulting heteroskedasticity to identify causal effects. An unexpected one-standard-deviation increase in communication lowers monetary policy uncertainty by about 0.25 standard deviations. Structural VAR estimates show sizable and persistent real effects: within two months, industrial production rises by about 0.3 percent, unemployment falls by 0.2 percentage points, and durable goods consumption increases by about 0.5 percent. These findings highlight an uncertainty channel of monetary policy communication and show that active communication can serve as an independent policy tool.