Reading Central Banks – Does Unconventional Blur the Picture?

The effectiveness of central banks to fulfil their policy goals depends also on their ability to clearly signal their intentions to financial market participants and the general public. After all, monetary policy actions are transmitted via financial markets to the real economy and private households. In normal times, that is before the financial crisis, the short-term interest rate was the main tool to communicate the policy stance. Knowing where the short-term interest rate would go, would provide a good guide to where the central bank wants the economy to go. The addition of unconventional policy tools, such as outright purchases of financial assets, and a closer interaction between monetary and fiscal policy has made “reading” central banks more complicated for market participants. This in turn makes a stronger effort from central banks necessary to get their message across. Unfortunately, it also implies a higher risk of mis-communication and policy mistakes.