Over the next several weeks, economists, journalists, and financial market participants will carefully scrutinize every word from every speech given by every Federal Reserve Governor and Reserve Bank President, all in an effort to predict the future path of interest rates. Of course, this heightened attention to “Fedspeak” reflects the widespread belief that the Federal Open Market Committee (FOMC) will begin raising rates later this year, perhaps as soon as its next, mid-September meeting.
But speeches and interviews by Federal Reserve officials often make business headlines – and provoke strong reactions in stock and bond prices, too. Every year, Macroeconomic Advisors, an economics consulting firm, publishes an article entitled “Who Moved Markets Most?” that reports which FOMC members generated the largest and most frequent interest rates responses with their comments. These annual summaries reveal that many FOMC participants – not just the Federal Reserve Chair – regularly deliver statements that affect bond yields. Why should so many comments by so many Committee members have such large effects on markets?
Perhaps the most obvious answer to this question is that Federal Reserve officials are simply reacting to daily economic news reports in the same way that do other market participants. If Fed officials give speeches on the day that a major report on inflation, unemployment, or GDP has been released, it seems only natural that they would comment on the latest news and highlight its implications for monetary policy. In a previous op-ed for E21, however, we pointed to some of the dangers of this heavily “data-dependent” approach to monetary policymaking. When viewed in isolation, every piece of economic news usually is subject to more than one interpretation and any one piece of economic data will be measured with error, possibly subject to large revision later on. If FOMC members move markets simply by reacting to the latest news, they might better serve the public by reminding their listeners that sound policy decisions are based on assessments of underlying trends. These trends come from examining a range of data compiled over a period long enough to allow statistical quirks to be ironed out and measurement errors to be averaged away. This would dampen, rather than amplify, any tendency for markets to overreact to a single day’s news.
The ability of individual members to move markets with their public statements also could reflect disagreement within the FOMC. “Hawks” on the Committee might be using their speeches to make the case for monetary tightening, while “doves” argue, instead, for more accommodative policies. Market reaction to these speeches would then reflect the public’s changing judgments of which side is winning the debate. In general, holding policy debates in the open would seem quite consistent with the workings of a well-functioning democracy. In the case of monetary policy, however, economists have long argued that central bankers who remain at least one step removed from the political process often make better decisions, by resisting the temptation to take measures that yield short-run benefits but subject the economy to larger, longer-run costs. Although Federal Reserve officials often invoke the idea of “central bank independence” to resist additional oversight from Congress, they might also wish to consider whether their goal of Fed independence would be served better by speeches that emphasize Committee consensus over any one individual’s views.
Finally, market movements driven by Fedspeak could reflect traders’ mistaken beliefs that FOMC members are using their speeches to provide inside information about future policy actions that have been discussed confidentially but not officially disclosed. Needless to say, Federal Reserve officials should take every opportunity to emphasize that this is never the case. In recent years, the FOMC has taken numerous steps to provide the public with more information about its deliberations and decisions. The Committee now releases an official policy statement immediately after each of its meetings, as well as more detailed minutes of those meetings with a three-week lag. No one should be left with the impression that additional information leaks out, either in public or private, when FOMC members speak.
Mervyn King, former Governor of the Bank of England, once quipped that every central banker should strive to be as “boring” as possible. What King meant by this, above all, is that monetary policy should be conducted in a manner that is predictable and easy to understand. Under Chairs Bernanke and Yellen, the FOMC had done much to become more boring in this sense, through the timely, public release of its policy statements and minutes. However, the markets’ continuing, intense focus on individual speeches and interviews – so-called Fedspeak – suggests that the Committee still has a ways to go in clarifying what it is doing and why.
Michael Belongia is a professor of economics at the University of Mississippi. Peter Ireland is a professor of economics at Boston College and a member of the Shadow Open Market Committee. You can follow him on Twitter here.
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