Board of Governors of the Federal Reserve System

Monetary Policy Strategies of Major Central Banks

The Federal Reserve and many other central banks have broadly similar approaches to making monetary policy--approaches that are systematic, transparent, and forward looking.¹ These approaches share a number of key features. For example, the goals of monetary policy--what the central bank is trying to achieve--are well defined and clearly stated. Major central banks also tend to be highly transparent, explaining policy decisions and the rationale for those decisions to the public. Such transparency strengthens the effectiveness of monetary policy by helping households and businesses form expectations about future economic and financial conditions--expectations that influence their spending and investment decisions; transparency also helps countries hold their central banks accountable for meeting their goals.²

Because monetary policy affects the economy with a lag, the Federal Reserve and other major central banks take a forward-looking approach. Central banks consider not only current economic conditions, but also the expected evolution of the economy and the risks around that outlook. Four times each year, as part of the Federal Open Market Committee's (FOMC) forward-looking approach, each member of the Board of Governors and each Federal Reserve Bank president formulates and submits his or her projections of the most likely outlook for growth in real, or inflation-adjusted, gross domestic product; the unemployment rate; and inflation, along with assessments for the path of the federal funds rate deemed most likely to foster outcomes consistent with the FOMC's goals.³ These forecasts are published every quarter in the Summary of Economic Projections (SEP); projections from the most recent SEP are also included in the semiannual Monetary Policy Report transmitted to the Congress.⁴ During FOMC meetings, policymakers discuss their individual perspectives and forge a consensus on the appropriate policy decision.

Most other major central banks also publish forecasts of inflation and other macroeconomic variables. A well-known example is the Bank of England's Inflation Report, which provides forecasts for economic growth, the labor market, and inflation together with an assessment of the uncertainty associated with each forecast. The publication of forecasts enhances transparency, in part because central banks' goals are often stated in terms of inflation and employment in the medium or longer run.

In deliberating about monetary policy and formulating projections for the economy, Fed policymakers routinely consult the prescriptions of policy rules. Such rules propose settings for the policy interest rate based on estimates of the deviation of (1) inflation from the central bank's objective and (2) output from its full resource utilization level. However, such rules do not, on their own, incorporate feedback effects that changes in the policy rate will have on growth, the labor market, and inflation. By embedding a policy rule within a macroeconomic model, it is possible to examine prescriptions for the policy interest rate that take into account these feedback effects. For many years, the FOMC has regularly examined both the prescriptions from simple policy rules and simulations that incorporate feedback effects.⁵ Other major central banks use policy rules in a similar fashion, but, to date, no major central bank has set its policy rate mechanically based on the prescriptions of such a rule.⁶ For a discussion of the limitations that argue against setting monetary policy by mechanically following any rule, see Challenges Associated with Using Rules to Make Monetary Policy.

With regard to the goals of policy, the Federal Reserve and other major central banks state the objectives of monetary policy clearly and publicly and explain how the policy committee pursues those goals. In the Federal Reserve Act, the Congress instructs the Federal Reserve to set monetary policy to promote "maximum employment, stable prices, and moderate long-term interest rates."⁷ In 2012, the FOMC adopted a Statement on Longer-Run Goals and Monetary Policy Strategy, which it has reaffirmed every January.⁸ This statement indicates that the FOMC judges that inflation at the rate of 2 percent (as measured by the annual rate of change in the price index for personal consumption expenditures) is most consistent over the longer run with the Federal Reserve's statutory mandate. The FOMC's inflation objective is symmetric, meaning that persistent deviations of inflation above or below 2 percent would be equally undesirable. The statement also indicates that the FOMC strives to minimize the deviations of employment from the Committee's assessments of its maximum level. At the same time, the statement acknowledges that the maximum level of employment is determined largely by nonmonetary factors and varies over time.⁹

Other major central banks around the world also have broad mandates set by legislation (or, in the case of the European Central Bank (ECB), by treaty) and have generally agreed-upon numerical goals for inflation, but--like the Fed--they have not set specific numerical goals for other economic objectives. For example, the treaty that established the ECB lists price stability as the primary objective, but it also directs the ECB to contribute to the achievement of the objectives of the European Union, including full employment and balanced economic growth.¹⁰ The ECB defines price stability as year-on-year inflation below 2 percent and aims at maintaining inflation "below, but close to, 2% over the medium term."¹¹ In practice, all major central banks--even those whose statutory mandates are worded solely in terms of inflation--seek to deliver price stability while avoiding large deviations of employment and output from levels consistent with sustaining maximum employment.¹²

Finally, the Federal Reserve and other major central banks around the world regularly announce their policy decisions to the general public and explain the rationale for those decisions. For example, after its eight regularly scheduled meetings each year, the FOMC releases a statement announcing its policy decision and its assessment of recent economic developments and the economic outlook.¹³ Following four of these meetings, the Chair holds a press conference to provide additional information and answer questions. Detailed minutes of FOMC meetings are published three weeks later; transcripts and meeting materials from FOMC meetings are released after five years. Twice each year, the Federal Reserve gives its Monetary Policy Report to the Congress, and the Chair testifies before congressional committees about that report. Board members, including the Chair, and Federal Reserve Bank presidents give numerous speeches to a wide variety of audiences and deliver testimony before the Congress as requested.

Central banks around the world use many of these same communication tools. For example, the Bank of England, the Bank of Japan, the ECB, the Reserve Bank of Australia, and Sweden's Riksbank provide detailed minutes of each policy meeting, typically within a month of the meeting. Almost all major central banks hold regular press conferences at which a senior policymaker explains policy decisions and answers questions from the media; their policymakers also testify before legislatures and give speeches. The Bank of Japan, like the FOMC, releases full transcripts of its policy meetings after a long lag.¹⁴

Taken together, the Federal Reserve's policy communications provide a wealth of information that members of the Congress and the public can use to understand the FOMC's decisions and assess their implications for the economy. Such communications help ensure that the Fed is accountable to the public. Similarly, other major central banks' policy communications help the public and elected officials understand those central banks' policy decisions. By helping the public understand central banks' goals and their strategies for achieving those goals, central banks' policy communications enhance the effectiveness of monetary policy.

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