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 From Washington to London to Tokyo, the global shift from
transparency to flexibility underscores the challenges central
bankers face as they test the limits of what monetary policy can
achieve.
The return to a more traditional policymaking approach and nuanced
statements will challenge the communication skills of central
bankers who have been chastened in the last year after some
too-specific messages confused and disrupted financial markets.
Complicating things on the world stage, the U.S. Federal Reserve and
the Bank of England are looking to telegraph plans and conditions
for raising interest rates, while the European Central Bank and the
Bank of Japan are heading the other way.
"Central banking used to be an art," said a senior official of a G7
central bank. "It became less so once, globally, but with what's
happened at the Fed and the BoE, it may be back to being an art."
Both the Fed and BoE had promised to hold interest rates near zero
until their jobless rates had fallen to a particular level. However,
unemployment in the United States and Britain fell much more quickly
than economists expected and both central banks scrambled to replace
their suddenly outdated "forward guidance".
"Too much transparency may sometimes be counter-productive. The
balance is always tricky," the official said, requesting anonymity.
The plan had been novel. After driving short-term borrowing costs to
historical lows to battle the 2007-2009 financial crisis and deep
recessions, western central banks began offering pledges on the
future rate path in an attempt to pull down long-term borrowing
costs for automobiles, homes and business expansion.
Fed Chair Janet Yellen and many other policy makers routinely say
the plan succeeded on that score, although other factors
contributed. But Yellen, who was vice chair of the U.S. central bank
before taking the Fed's reins, is leading the charge away from
specific policy forecasts.
"The idea of forward guidance was that by being transparent, you got
a bigger effect on long-term rates," said Patrick Artus, global
chief economist at French bank Natixis.
"But central banks take a risk on credibility," he said. "If
something unexpected happens, you have to deviate from what you have
been announcing."
The Fed's reputation took a hit last spring when borrowing costs
shot up after then Fed Chairman Ben Bernanke talked about the
prospect of the central bank reducing its stimulative asset
purchases "in coming meetings." Emerging markets also sold off
sharply as investors priced in an earlier liftoff for U.S. rates.
Several Fed officials felt compelled to walk back the guidance in an
episode that prompted criticism from around the world over the
Americans' sloppy communications.
The BoE, too, struggled with communication. In February it was
forced to reconsider policy two and a half years ahead of schedule.
With caveats about the economy, it had promised to keep rates low at
least until the unemployment rate fell below 7 percent, predicting
that would take three years. It took six months.
A month after the BoE's reconsideration, in March, the Fed would
drop a similar pledge.
The experiences, keenly scrutinized and debated, led to a growing
realization of the dangers of offering policy commitments, said
officials familiar with discussions among global central bankers.
"We have to be careful (and) certain that you do not commit to
things that we're not sure we can actually produce," Alan Greenspan,
Bernanke's predecessor, told the Economic Club of New York in April.
"Remember, we don't forecast very well."
FROM 'CHEAP TALK' TO 'USEFUL GUIDANCE'
The latest guidance from the Fed and BoE is far less specific.
After Yellen's first policy-setting meeting as Fed chair in March,
the U.S. central bank said rates would likely stay at rock bottom
for a "considerable time" after it shelves its bond-buying program
and, in a twist on qualitative guidance that leaves the Fed
flexibility, it predicted rates would stay below-normal even after
the economy has fully healed.
Yet Yellen sent markets tumbling when she stepped out of the Fed
meeting that day and told reporters rates could rise "around six
months" after a bond-buying program ends.
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Since then, by and large, the Fed has stuck with its broader
guidance, closing the book on an era in which it rolled out eight
distinct messages since 2008 on when it planned to tighten policy -
at times targeting dates, at other times targeting specific
unemployment and inflation rates.
The Fed is now moving away from "cheap talk" and toward "useful
guidance," said Adam Posen, a former member of the BoE's
policy-setting committee who is now president of the Peterson
Institute for International Economics.
"It doesn't commit you to anything, or constrain you in terms of
what you are responding to," he said.
Similarly, BoE Governor Mark Carney has refused to give any clear
indication of the timing of a rate hike in recent appearances,
instead steering markets to scrutinize both the strength and
uncertainties of the economy.
But he too has struggled to sound the right tone: investors
scrambled to adjust their bets last month after Carney said they
underestimated the chance of an early rate hike. He sought to soften
the comment the following week, prompting one lawmaker to compare
him to an "unreliable boyfriend."
WALK THE TALK
The example of Japanese and European central banks show that verbal
commitment could prove ineffective unless backed by bold action.
The BoJ historically favored opacity over transparency, but its
approach failed to pull Japan out of deflation for nearly two
decades.
Haruhiko Kuroda, a central banking outsider who took the BoJ's helm
in March of last year, married bold action and words when he pledged
to hit the bank's 2-percent inflation target in roughly two years,
and the BoJ doubled its aggressive asset purchases.
The double-whammy weakened the yen by 8 percent against the dollar
and lifted consumer inflation about half way to the BoJ's goal.
Even so, Kuroda has responded by following up with vague guidance,
saying only that the BoJ will stick to ultra-loose policy until
2-percent inflation is achieved in a "stable manner." So far markets
do not expect a premature change in policy.
As for the ECB, it faces perhaps the greatest test as it struggles
to extinguish deflation risks. After spending most of last year
teasing financial markets about pending action, it had to put its
money where its mouth was in June by adopting negative interest
rates.
ECB President Mario Draghi has said more action would come if
necessary although it is uncertain how long he can wait without
launching a bond-buying program, known as quantitative easing or QE,
which is the last big option left in the bank's depleted war chest.
"There are a lot of people in central banks who are fantasizing
about forward guidance because it means they can stop QE and still
claim they are doing something," said Posen of the U.S.-based
Peterson Institute.
"It was very attractive because ... it doesn't cost us anything," he
said. "And like most things that don't cost anything, it's not worth
much."
(Reporting by Jonathan Spicer and Leika Kihara; Additional reporting
by Ann Saphir in San Francisco; editing by David Chance and Peter
Henderson)
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