Identifying monetary policy shocks using economic forecasts in Korea

Abstract

Understanding monetary policy transmission is crucial to making policy decisions and evaluating macroeconomic models and relevant theories. In this study, we identify monetary policy shocks by orthogonalizing policy rate changes with respect to economic forecast information and examine the responses of a comprehensive set of economic indicators in Korea over 2009-2018 period. We find that monetary policy transmission is effective across almost every sector in the economy, including production, expenditures, prices, interest rates, monetary aggregates, liquidity, and asset prices. In contrast with alternative measures for monetary policy innovation, abnormal responses such as output and price puzzles are not observed using our estimated monetary policy shocks. Private agents' inflation expectations fall and economic outlook deteriorates after a contractionary monetary policy shock. We attribute these results to the fact that the instant release of economic forecasts along with policy decision announcements weakens the so-called information effect.