Exchange Rates and the Information Channel of Monetary Policy

Abstract

We disentangle the effects of monetary policy announcements on real economic variables into an interest rate shock component and a central bank information shock component. We identify both components using changes in interest rate futures and in exchange rates around monetary policy announcements. While the volatility of interest rate surprises declines around the Great Recession, the volatility of exchange rate changes increases. Making use of this heteroskedasticity, we estimate that a contractionary interest rate shock appreciates the dollar, increases the excess bond premium, and leads to a decline in prices and output, while a positive information shock appreciates the dollar, decreases prices and the excess bond premium, and increases output.

The determinants of inflation volatility: a panel data analysis for US-product categories

“…They find evidence for EMU countries supporting the existence of a cross-country link over the 4 The exchange rates react to asymmetric movements between internal and foreign monetary policies. Indeed, evidence indicates they react quickly, and they do it even more in periods in which interest rates are in the zero lower bound (See (Rosa, 2011)and (Holtemöller, et al, 2020)). Therefore, the use of EER instead of the import price indexes helps to capture the differential between foreign (imported) and national inflation; and the transmission of the asynchronized business-cycles among countries that trade (See (MacDonald & Swagel, 2000)).…”