Does it Pay to Watch Central Bankers’ Lips? The Information Content of ECB Wording

Abstract

Summary In this analysis, the informational content of central bank rhetoric is assessed based on the experience with the ECB since 1999. Among the ECB’s communication channels we focus on the monthly press conferences. Based on a counting of certain signal words we construct a wording indicator reflecting the “hawk-ishness” of monetary rhetorics. For the construction, we develop an objective algorithm. We then integrate this indicator into a standard Taylor type ordered probit model for the explanation of the interest rate. We show that the wording indicator can improve the model’s fit when added to the standard explanatory variables. However, a model based solely on this indicator performs worse than the baseline. The results are confirmed by an out of sample analysis where the determination of the wording indicators’ weights is based on the early ECB period which, subsequently, is excluded from the tests. Our conclusion is that linguistic analysis can improve but not substitute more rigorous forecasting techniques based on hard economic data.

Does central bank communication really lead to better forecasts of policy decisions? New evidence based on a Taylor rule model for the ECB

“…In our analysis we include five indicators that are all based on the introductory statement by the ECB President, namely an updated version of the index of Rosa and Verga (2007), 8 the aggregate index of Berger et al (2010), the index of Heinemann and Ullrich (2007), the KOF Monetary Policy Communicator (MPC) as published by the KOF Swiss Economic Institute and used by Conrad and Lamla (2007), 9 and the indicator of Ullrich (2008). 10 All data used in the present paper are available.…”

“…2 For instance, Gorter et al (2008) report that in their backward-looking Taylor model the Taylor principle does not hold, in contrast to the Taylor model with expected inflation and output growth. So the findings of Heinemann and Ullrich (2007) and Rosa and Verga (2007) may just reflect their use of a potentially mis-specified Taylor rule model. Jansen and De Haan (2009) employed a similar forward-looking Taylor rule model as used in the present paper and conclude that their communication indicator does not increase the fit of the model.…”

“…3 Second, all previous papers use just one indicator of ECB communication. Whereas Heinemann and Ullrich (2007) and Rosa and Verga (2007) use communication indicators that are based on the introductory statement of the ECB's President at the press conference following the ECB policy meeting, Jansen and De Haan (2009) employ an indicator based on Bloomberg news reports. We will show that even if various communication indicators are based on the same information, i.e.…”

“…In order to test to what extent results are sensitive to the choice of a particular indicator, we employ five different indicators of ECB communication that are all based on the ECB President's introductory statement at the press conference following an ECB policy meeting. Apart from the indicators of Heinemann and Ullrich (2007) and an updated version of the index of Rosa and Verga (2007), we employ the aggregate…”

Inflation expectations of experts and ECB communication

“…We rely on a variant of the wording indicator of Heinemann and Ullrich (2007). 1 The construction period of the indicator, wd, covers the period of January 1999 to December 2001 ensuring that the first interest rate cycle for the euro area is included.…”