Let the Market Speak: Using Interest Rates to Identify the Fed Information Effect

Abstract

I propose a novel method to disentangle the exogenous monetary shock from the signaling
effect of a Fed announcement in real time. The method relies on the different ways monetary
news and non-monetary news change the entire short end of the yield curve at high frequency,
with the latter informed by market responses to macroeconomic data releases. The estimated
revelation of Fed information is strongly correlated with the difference between market forecasts
and the Fed’s own forecasts. The monetary shock is found to have a bigger effect on the
economy than suggested using an instrument without adjustment for the signaling effect.

Keywords: monetary policy, central bank information effect, high-frequency event studies, macroeconomic data releases, factor analysis

JEL Classification: E50, G10, C10