For release: Aug. 21, 2003

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Improving Transparency of Federal Reserve Policy Actions Is Hard Work, but Necessary: St. Louis Fed’s Poole

PHILADELPHIA, Pa. — When it comes to financial markets’ interpretations of Federal Reserve policy actions, “transparency” means “accurately conveying accurate information, including all the information markets need to form opinions on monetary policy that are as complete as possible.” That definition’s author: William Poole, president of the Federal Reserve Bank of St. Louis.

Seeking that kind of transparency and actually getting it, however, can be two different things, said Poole. “It’s a worthy goal, but it’s hard work,” he said. Poole’s comments were part of a speech before the Global Interdependence Center, which met at the Philadelphia Fed.

In his model of the economy, “the market and the central bank have the same information base; neither has an informational advantage,” Poole said. “Given that assumption, both players respond the same way when new information arrives. The central bank determines the appropriate policy response, knowing that the market also has the same information and understands its implications for the economy and for policy actions.”

Poole said this model generally describes the way the U.S. economy has been working in recent years. And though it has been moving toward the model’s “full rational expectations equilibrium,” the Fed is “not all the way there yet.” In particular, he said, “over the last quarter century there’s been enormous progress in improving the clarity of the Fed’s objectives and our discipline in pursuing those objectives. There has also been great progress in providing more accurate and timely information about Fed policy actions.” Improving the quality of that information and its understanding by the markets, said Poole, is the Fed’s main communications challenge.

Poole noted that in the early 1980s, the Fed’s Federal Open Market Committee (FOMC) began to vote on language pertaining to possible future policy actions. The language was called the “tilt,” “bias” or “symmetry” of the policy directive. That statement, however, had no information value about policy actions because it was released after the next FOMC meeting.

To try to clarify its communications, Poole said, the FOMC established a subcommittee to review the policy directive and the public announcement after FOMC meetings. The result: a new “balance of risks” statement assessing the outlook for price stability and sustainable economic growth in the foreseeable future. “Despite the FOMC’s intention that the new ‘balance’ statement was not to be interpreted as an indicator of future FOMC actions, evidence suggests that market analysts used it to form expectations of a likely near-term policy action,” Poole said. “My perception is that the balance of risks language didn’t come to have a settled meaning in the market.”

Poole said he sees “no room for merely satisfying curiosity about what goes on in FOMC meetings. The appropriate communications goal in the context of how the economy functions should be to minimize market uncertainty about monetary policy.” He emphasized that uncertainty about future monetary policy actions can’t be eliminated, “because those actions depend critically on information that cannot itself be predicted. What needs to be minimized is uncertainty about central bank responses to new information.”

Poole asked rhetorically if, as a practical matter, whether the FOMC could decide on the probability of an upcoming policy action and convey that probability accurately to the market. “My own view is that only rarely could the FOMC agree on what the probability should be, and even this it would be extremely difficult to convey that probability to the market,” he said. “Also, if the probability is high, why not take the policy action at the current meeting rather than broadcast it as likely at the next one?”

Poole said that his view of the FOMC’s post-meeting policy statement is that “it should concentrate on explaining the policy action and its rationale and not hint at future policy actions. The purpose of the statement should be to explain why the policy action, or lack of action, has positioned policy appropriately given the information available."

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