Forward guidance is central banking’s latest fad. Since the nadir of the crisis, all four of the major central banks have adopted their own version of it.
But is this fashion for keeps? That depends on whether the policy works.
Guidance involves saying what you’re going to do, before doing it. This, central banks hope, will temper markets’ uncertainty about what happens to interest rates.
Whether it works or not, then, depends on how much markets trust policy makers to do what they say they’re going to do. If investors think policy makers are lying, or central banks lose credibility by reneging on their pledges, then the guidance could harm reputations for a long time to come.
So does it work? According to a paper, published by the Bank for International Settlements today, it does. Well, sort of.
Yet the research also flags that if forward guidance does succeed, it could end up doing more harm than good. Read more