I’m curious about the world of economics and finance and find myself occasionally reading the most recondite of articles. My interest was piqued by a comment in the FT Alphaville blog about an economics research report by Willem Buiter of Citi Bank, when they said that it was “enticingly aggressive and highly readable 17-page note”.
Sadly, that 17-page note is proprietary, to read the research note from the link in the blog you’ll need to subscribe to the FT Alphaville. Any way, here’s Willem Buiter’s introduction to his note on Forward Guidance.
There are two reasons for this post. First the word pleonasm is a new word to me, secondly I wanted to understand the latest tool of central bankers on setting interest rates. Here’s the punchy introduction,
‘Forward guidance’ had a poor start in life. It was born as a pleonasm – afflicted with a severe case of redundancy. ‘Guidance’ would have sufficed, as all guidance relates to the future and is therefore inevitably forward. Perhaps some idiosyncratic historians call their subject ‘backward guidance’, and maybe the odd tourist has signed up for instantaneous or simultaneous guidance around some ancient site, but we doubt it. Redundancy as a rhetorical device tends to be used when it is deemed desirable to inflate the importance of someone or something beyond what is fundamentally warranted. Our view is that this also is the case with forward guidance.”
Buiter’s conclusion is,
“The best approach to signaling longer-term policy intentions in an operational manner typically has three components.
First, commit to the regular publication and updating of longer-term forecasts of the target variables, of any additional nominal or real thresholds, knockouts or triggers that define the central bank’s reaction function for each of its instruments, and of the instruments themselves.
Second, reach an agreement that at most one member of the monetary policy making committee, presumably its chair, speaks or writes publicly about the likely future paths of the policy instruments – rates, QE, or whatever. The other members can of course still discourse in public about the principles of monetary policy and the history of central banking.
Third, give the central bank skin in the game by requiring it to issue or purchase material amounts of financial instruments on which it will lose money if interest rates depart from the forward guidance-consistent levels – financial hostage instruments. If possible, link the pay of the monetary policy makers at least in part to the performance of these instruments.”
As I say, recondite stuff.
Lightwater 