Forward guidance and the exchange rate: A theoretical sign restricted VAR analysis

Fabrice Dabiré ()
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Fabrice Dabiré: Université de Sherbrooke

Cahiers de recherche from Departement d'économique de l'École de gestion à l'Université de Sherbrooke

Abstract: This paper uses zero and signs restrictions to study the effect of the U.S. forward guidance and unanticipated monetary policy on four U.S. bilateral nominal exchange rates and net exports. I find that although the U.S. forward guidance easing depreciates the exchange rate, the policy does not transmit to the real activity via an “expenditure-switching effect” on the net exports. The use of narrative sign restrictions improves the identification method. The complementary results are as follows: a VAR model augmented with interest rate forecasts contains at least enough information to identify the forward guidance and unanticipated monetary shocks; the nominal bilateral exchange rates depreciate by two to four percent after a 25 basis point forward guidance easing in a hump-shaped pattern without any deviation from the Uncovered Interest rate Parity condition; both shocks explain between 7.3 percent to 27.9 percent of the exchange rates variance, and the forward guidance shock contributes to at least half of this variance decomposition; finally, forecasters perceive the forward guidance shock as future deviation from the Taylor rule.

Keywords: Monetary policy; Forward guidance; Exchange rate; Sign restrictions. (search for similar items in EconPapers)
JEL-codes: E52 E58 F31 F41 (search for similar items in EconPapers)
Pages: 67 pages
Date: 2022-12
New Economics Papers: this item is included in nep-cba, nep-des, nep-mac, nep-mon and nep-opm
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Persistent link: https://EconPapers.repec.org/RePEc:shr:wpaper:22-03

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