Learning and the Effectiveness of Central Bank Forward Guidance

Stephen Cole

Journal of Money, Credit and Banking, 2021, vol. 53, issue 1, 157-200

Abstract: This paper examines the link between expectations formation and the effectiveness of central bank forward guidance. A standard New Keynesian model is extended to include forward guidance shocks in the monetary policy rule. Agents form expectations about future macro‐economic variables via either the standard rational expectations hypothesis or an adaptive learning model. The results show that the assumption of rational expectations overstates the effects of forward guidance relative to adaptive learning during an economic crisis. Thus, if monetary policy is based on a model with rational expectations, the results of forward guidance could be potentially misleading.

Date: 2021
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https://doi.org/10.1111/jmcb.12696

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Working Paper: Learning and the effectiveness of central bank forward guidance (2015)
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Persistent link: https://EconPapers.repec.org/RePEc:wly:jmoncb:v:53:y:2021:i:1:p:157-200

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