Central Bank Sentiment and Policy Expectations
53 Pages Posted: 20 Feb 2017
Date Written: February 17, 2017
We explore empirically the theoretical prediction that optimism or pessimism have aggregate effects, in the context of monetary policy. First, we quantify the tone conveyed by FOMC policymakers in their statements using computational linguistics. Second, we identify sentiment as the unpredictable component of tone, orthogonal to fundamentals, expectations, monetary shocks and investors’ sentiment. Third, we estimate the impact of FOMC sentiment on the term structure of private interest rate expectations using a high-frequency methodology and an ARCH model. Optimistic FOMC sentiment increases policy expectations primarily at the one-year maturity. We also find that sentiment affects inflation and industrial production beyond monetary shocks.
Keywords: Animal spirits, optimism, confidence, FOMC, interest rate expectations, central bank communication, ECB, aggregate effects
JEL Classification: E43, E52, E58
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