Inflation targeting, transparency and interest rate volatility: Ditching “monetary mystique” in the U.K.

Abstract

Monetary authorities often seem reluctant to discuss the conduct of monetary policy. There is a concern that greater openness in monetary policy-making may lead to volatility in financial markets, and specifically in interest rates. However, to date there is very little direct empirical evidence but recent changes in the monetary policy framework of the UK provide an opportunity to gain some insight on this issue. First, we present a model of monetary policy showing that volatility that would other wise occur to aggregate prices is transmitted to the rate of interest in a tightly specified nominal regime. Under some circumstances information flows may add to volatility; if volatility is harmful then central bankers may be right to be reticent. However, the evidence suggests that even though volatility has indeed risen in the recent past, there is no evidence that this volatility is directly attributable to increased information flows per se.

Do financial markets react to Bank of England communication?

“…Indeed, the Bank of England's commitment to transparency makes a virtue out of being 'boring ' and predictable;King (2000) This view also has support in the theoretical literature. Chadha and Nolan (2001) argue that higher variance in financial markets resulting from monetary policy announcements or communication reflects a lack of understanding about what the central bank is doing. So, large movements in financial markets in reaction to central bank communication might suggest a lack of transparency.…”

Efectos de los anuncios de política monetaria sobre la volatilidad de la tasa de cambio: un análisis para Colombia, 2008-2015

“…En la literatura existen resultados que relacionan la comunicación de los bancos centrales con efectos importantes en la estructura a término de la tasa de interés y el gerenciamiento de las expectativas, variables importantes para afectar el desempeño económico en el largo plazo (Chadha & Nolan, 2001;Woodford, 2005;Andersson et al, 2006;Blinder et al, 2008). En conjunto con la evidencia a favor que relaciona la comunicación con una mejor conducción de la política monetaria, los bancos centrales pueden influenciar el mercado financiero dependiendo de qué comuniquen, cómo y quiénes lo hagan.…”

Monetary Policy Transparency in the UK: The Impact of Independence and Inflation Targeting

“…For the USA, Kuttner (2001) For the UK two papers, by Chadha and Nolan (2001) and Caporale and Cipollini (2001), approach the question of transparency through the volatility of market rates. The former tested for a direct relationship between interest rate volatility in the UK and transparency measured by (i) the publication of minutes of the MPC meetings, (ii) the effects of announcements on the interest rate decisions of the MPC and (iii) the publication of the Inflation Report.…”