The Power of Forward Guidance Revisited
- (pp. 3133-58)
AbstractIn recent years, central banks have increasingly turned to forward guidance as a central tool of monetary policy. Standard monetary models imply that far future forward guidance has huge effects on current outcomes, and these effects grow with the horizon of the forward guidance. We present a model in which the power of forward guidance is highly sensitive to the assumption of complete markets. When agents face uninsurable income risk and borrowing constraints, a precautionary savings effect tempers their responses to changes in future interest rates. As a consequence, forward guidance has substantially less power to stimulate the economy.
CitationMcKay, Alisdair, Emi Nakamura, and Jón Steinsson. 2016. "The Power of Forward Guidance Revisited." American Economic Review, 106 (10): 3133-58. DOI: 10.1257/aer.20150063
- E21 Macroeconomics: Consumption; Saving; Wealth
- E40 Money and Interest Rates: General
- E50 Monetary Policy, Central Banking, and the Supply of Money and Credit: General