Thomas A. Lubik Federal Reserve Bank of Richmond

1. Discussion ofCommunicating Monetary Policy Intentions: The Case of Norges Bankby AmundHolmsen Thomas A. Lubik Federal Reserve Bank of Richmond

2. My favorite sentence in the paper is the last:

3. My favorite sentence in the paper is the last:“If nothing else, the Bank’s communication approach should make better economists.”

4. My favorite sentence in the paper is the last:“If nothing else, the Bank’s communication approach should make better economists.” • This nicely captures the spirit of the paper But let’s start at the beginning …

5. Overview • Monetary policy has come a long way: • Not so long ago central banks were very secretive, now they worry about communications strategy • Widespread use of estimated DSGE models

6. Overview • Monetary policy has come a long way: • Not so long ago central banks were very secretive, now they worry about communications strategy • Widespread use of estimated DSGE models • Driven by intellectual environment: • Keynesian aggregate demand thinking is passé • Monetary policy has to do with controlling inflation: Hetzel (2008)

7. Overview • Much of the advances in monetary policymaking pushed by a few SOE central banks: • RBNZ: inflation targeting • Riksbank: Bayesian DSGE modelling • Norges Bank: transparency and communication

8. Overview • Much of the advances in monetary policymaking pushed by a few SOE central banks: • RBNZ: inflation targeting • Riksbank: Bayesian DSGE modelling • Norges Bank: transparency and communication • Federal Reserve is slowly getting there: • Hints of an inflation target • Longer policy projections

9. April 29 FOMC Statement “The Committee […] anticipates that economic conditions are likely to warrant exceptionally low levels of the federal funds rate for an extended period.”

10. Norges Bank and Transparency • Norges Bank has published model-based endogenous interest-rate forecasts since November 2005 • Transparency strategy includes: • Probabilistic statements about future policy • Explicit conditioning on shock distribution • Openness about policy maker’s preferences • Key is willingness to put a policy rule on the line: • CB reacts to shocks and unforeseen developments • Policy response as a general equilibrium outcome

11. Norges Bank and Transparency • Transparency has arguably been quite successful: • Reduction in interest volatility • Market expectations close to forecasts

12. The Costs of Transparency • Goodfriend’s (1986) “Monetary Mystique” • Two concerns: • Noise • Commitment to policy path • Theoretical case can be made that a better informed, but secretive trader is beneficial • Concerns that central bank adds noise seem excessive

13. The Costs of Transparency • More relevant: public might interpret interest path as a promise, deviation might be interpreted as discretion • This can be handled by the right communication strategy: • Fan charts • Interest rate account • Press conferences

14. The Interest Rate Account

15. The Benefits of Transparency • Commitment is more important than transparency • There are certainly decreasing returns: • Objective/Target • Instruments • Forecasts • Policy Paths • Parameter estimates in the DSGE-Model? • In the big scheme of things, the last steps are of second order

16. The Benefits of Transparency • Is transparency a fair weather issue? • Arguably, more open communications in the last few years gave central banks breathing room to pursue unconventional measures • Transparency does not require the use of a DSGE model

17. NEMO • Typical SOE-DSGE model with the usual bells and whistles • Small-scale medium-sized model

18. NEMO • Typical SOE-DSGE model with the usual bells and whistles • Small-scale medium-sized model • Striking omission (2006 version): Oil • Oil investment • Oil fund distributions as a residual in the current account • Oil producing sector unmodelled • Relative price effect on inflation

19. Oil

20. Policy Preferences • Optimal policy minimizes ad-hoc loss function from a “timeless perspective” • Where do the weights come from? • Why not use Ramsey as the benchmark?

21. Policy Preferences • Optimal policy minimizes ad-hoc loss function from a “timeless perspective” • Where do the weights come from? • Why not use Ramsey as the benchmark? • Key contribution of the micro-foundation approach is not that we have optimization-based decision rules, but that we can talk about the effects of policy on welfare in a meaningful way

22. Back to the end:“If nothing else, the Bank’s communication approach should make better economists.” • This guarantees central bank jobs for generations of future PhDs But there are deeper issues …

23. Who is the Audience? • Public likely to be unimpressed by Bayesian DSGE models • Policymakers are given an additional tool, competition with other models • Optimal policy exercises in estimated DSGE models are a tool to elicit policymaker’s preferences

24. Monetary Policy as Engineering? • DSGE-based approach creates illusion of controllability

25. Monetary Policy as Engineering? • DSGE-based approach creates illusion of controllability • We’ve been there before: • 1972-74 were the heydays of the “large-scale macro- econometric model” • Making policy was simply an optimal control problem

26. Monetary Policy as Engineering? • DSGE-based approach creates illusion of controllability • We’ve been there before: • 1972-74 were the heydays of the “large-scale macro- econometric model” • Making policy was simply an optimal control problem • We know how this ended And arguably no amount of transparency could have prevented this …

27. Monetary Policy as Engineering! • Should not get carried too much away by the use of DSGE model in the policy process • Current crop of state-of-the-art DSGE models: • Not rich enough • Not identified • Parameter and model uncertainty should be much more taken into account • Bayesian model averaging • Committee approach: there’s wisdom in crowds

28. To Summarize • Norges Bank’s approach is laudable: • Take recent developments in macro very seriously; can’t be all bad • Provides employment for PhD economists