Communication at the Zero Lower Bound: The Case for Forward Guidance

Viktor Marinkov

No 923, Economics Series Working Papers from University of Oxford, Department of Economics

Abstract: The zero lower bound (ZLB) acts as an informational curtain for adaptively learning agents as they cannot observe the path of the interest rate. In a canonical New Keynesian model with no policy change it is shown that this results in a disagreement between the Central Bank and the agents about the lift-off date from the ZLB. Consistent with data from the Swedish Riksbank, the agents expect an earlier lift-off than the Central Bank when the ZLB is binding. The disagreement coupled with the learning of the agents results in explosive dynamics. Forward guidance is shown to restore stability at the ZLB by pre­venting spurious expectational drift. The paper calls for a necessary increase in transparency and communication by the Central Bank when constrained by the ZLB. Although such communication is welfare improving, the gains are modest and no forward guidance puzzle is present.

Keywords: Forward Guidance; Adaptive Learning; Central Bank Communication; Zero Lower Bound (search for similar items in EconPapers)
JEL-codes: E43 E52 E58 E61 (search for similar items in EconPapers)
Date: 2020-11-03
New Economics Papers: this item is included in nep-cba, nep-mac and nep-mon
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