The Power of Forward Guidance Revisited
Alisdair McKay, Emi Nakamura, Jón Steinsson
American Economic Review · 2016 · Volume 106 · Issue 10
Abstract
In recent years, central banks have increasingly turned to forward guidance as a central tool of monetary policy. Standard monetary models imply that far future forward guidance has huge effects on current outcomes, and these effects grow with the horizon of the forward guidance. We present a model in which the power of forward guidance is highly sensitive to the assumption of complete markets. When agents face uninsurable income risk and borrowing constraints, a precautionary savings effect tempers their responses to changes in future interest rates. As a consequence, forward guidance has substantially less power to stimulate the economy.
Keywords
Macroeconomics: Consumption, Saving, Wealth, Money and Interest Rates: General, Monetary Policy, Central Banking, and the Supply of Money and Credit: General
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