Efficient Market Responses to Error- Ridden Money Supply Announcements

Peter Orazem and Barry Falk

ISU General Staff Papers from Iowa State University, Department of Economics

Abstract: This study introduces a model of optimal market response to announced estimates of changes in economic aggregates when the estimates are known to be subject to error. We show that under fairly general conditions, rational economic agents will not take the announcements at face value, but will attempt to extract their own perception of the true change conditional on the announcement. Ignoring this signal extraction process can lead to incorrect conclusions regarding the behavioral response of asset prices to money supply shocks. The model is shown to be consistent with the data on the response of interest rates to money supply announcements.

Date: 1984-07-01
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