Friday, January 27, 2012

Central Banks: Setting Expectations

I sometimes wonder whether Central Banks need to be really transparent in sharing their forecasts and policies in advance. One extreme example is ofcourse of US Fed's announcement of keeping the interest rates low till 2014 (BBC).
Why have long-term forecasts and policy announcements? I see two problems with that. First,anything that is announced by Fed influences people's perception about reality and expectation about future. By making a long-term announcement, the Banks can paint a picture that although might not be true, but since it influences the people so much, it becomes an end itself for people. They take the future as given and make changes to fit into that environment. This gives life to the picture. Who knows how 2014 will look like? Second, by making such long-term promises, the Banks fall into the trap of keeping them. If promises are broken, their credibility takes a hit.

So why announce interest rates for 2014? Its funny but true how Central Banks and similar credible institutions can influence the world economics so much. I would personally like to see short-term forecasts of no more than 1 year and policies of no more than six months in future.

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