Academic journal article Economic Review (Kansas City, MO)

Global Effects of U.S. Monetary Policy: Is Unconventional Policy Different?

Academic journal article Economic Review (Kansas City, MO)

Global Effects of U.S. Monetary Policy: Is Unconventional Policy Different?

Article excerpt

The Federal Reserve Open Market Committee's (FOMC) announcement following its meeting on September 18, 2013, moved stock and bond markets worldwide. In the United States, the yield on 10-year Treasury bonds fell nearly 20 basis points in the hours following the announcement while stock prices surged higher--the S&P 500 jumped 1.2 percent. The effects of the announcement were not limited to the United States. The value of the dollar dropped during the afternoon of September 18, falling more than 1 percent against the euro and the Japanese yen, and more than 2 percent against emerging economy currencies. The Brazilian stock market added 2 percent on the news, as did Asian markets when they opened the following day. Although market participants were uncertain about what the outcome of the meeting would be, the reaction to the post-meeting announcement was striking, particularly considering that the FOMC did not change policy that day.

This article evaluates whether the reaction of asset markets on September 18 was a typical response to Federal Reserve policy. In a world with free mobility of capital, an unanticipated monetary policy action within the United States will affect asset prices both in the United States and outside of the country, as investors arbitrage away price differentials between assets with similar risk/reward characteristics. A closely related question is whether the reaction of asset prices to monetary policy is different at the zero lower bound. Since 2008, the conventional tool for monetary policy in the United States--the federal funds rate--has been near zero. As a result, the Federal Reserve has turned to unconventional monetary policies to provide additional accommodation. These unconventional policies may have altered the response of asset prices to Fed policy. To that end, the analysis compares the response of international asset price changes to unanticipated monetary policy actions before and after the federal funds rate hit the zero lower bound.

The analysis shows that a change in monetary policy in the United States is associated with movements in a variety of asset prices, both in the United States and abroad. Evidence of a change in the behavior of asset prices at the zero lower bound is mixed. The responses of asset prices within the United States to monetary policy do not appear to be different at the zero lower bound. However, some international asset prices do appear to react differently to policy announcements after 2007. Most notably, the response of exchange rates to monetary policy has been more volatile since the zero lower bound began to constrain conventional policies.

The analysis proceeds in two steps. The first step, described in Section I, develops a measure of monetary policy changes. Importantly, the measure of monetary policy remains valid even when the federal funds rate is constrained by the zero lower bound. The second step, described in Section II, relates the measure of monetary policy changes to movements in international asset prices. The results of the analysis are discussed in Section III.

I. MEASURING MONETARY POLICY SURPRISES

Movements of prices in the federal funds futures and Eurodollar markets on policy announcement days are used to detect unanticipated changes to policy, or monetary policy surprises. This section describes events used to isolate policy surprises and shows how price movements in federal funds futures and Eurodollar markets can be used to extract a markets-based measure of policy surprises.

Identifying monetary policy surprises poses several analytical challenges because the Federal Reserve sets policy contingent on the state of the economy. Since market participants can infer the state of the economy, they can, at least in part, anticipate monetary policy changes.

Identifying monetary policy surprises today is further complicated by the fact that policy is constrained by the zero lower bound. …

Search by... Author
Show... All Results Primary Sources Peer-reviewed

Oops!

An unknown error has occurred. Please click the button below to reload the page. If the problem persists, please try again in a little while.