The Fed’s Response to Economic News Explains the ‘Fed Information Effect’

61 Pages Posted: 3 Apr 2020

See all articles by Michael Bauer

Michael Bauer

Universität Hamburg

Eric T. Swanson

University of California, Irvine - Department of Economics

Date Written: February 28, 2020

Abstract

High-frequency changes in interest rates around FOMC announcements are a standard method of measuring monetary policy shocks. However, some recent studies have documented puzzling effects of these shocks on private-sector forecasts of inflation, unemployment, or real GDP, which have the opposite sign from what standard macroeconomic models would predict. This evidence has been viewed as supportive of a “Fed information effect” channel of monetary policy, whereby an FOMC tightening (easing) communicates that the economy is stronger (weaker) than the public had expected. We show that these empirical results are also consistent with a “Fed response to news” channel, in which incoming, publicly available economic news causes both the Fed to change monetary policy and the private sector to revise its forecasts. We provide substantial new evidence that distinguishes between these two channels and strongly favors the latter; for example, (i) high-frequency stock market responses to Fed announcements, (ii) a new survey that we conduct of individual Blue Chip forecasters, and (iii) regressions that include the previously omitted public macroeconomic data releases all indicate that the Fed and Blue Chip forecasters are simply responding to the same public news, and that there is little if any role for a "Fed information effect".

Keywords: Federal Reserve, forecasts, survey, Blue Chip, Delphic forward guidance

JEL Classification: E43,E52,E58

Suggested Citation

Bauer, Michael and Swanson, Eric T., The Fed’s Response to Economic News Explains the ‘Fed Information Effect’ (February 28, 2020). Available at SSRN: https://ssrn.com/abstract=3551950 or http://dx.doi.org/10.2139/ssrn.3551950

Michael Bauer (Contact Author)

Universität Hamburg ( email )

Von-Melle-Park 5
Hamburg, 20146
Germany

HOME PAGE: http://www.michaeldbauer.com

Eric T. Swanson

University of California, Irvine - Department of Economics ( email )

University of California, Irvine
3151 Social Science Plaza
Irvine, CA 92697-5100
United States
(949) 824-8305 (Phone)

HOME PAGE: http://www.ericswanson.org

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