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The Limitations of Forward Guidance

This article examines forward guidance via news shocks to the monetary policy rule in a nonlinear New Keynesian model with an occasionally binding zero lower bound (ZLB) constraint on the policy rate. Three findings emerge: (1) The stimulative effect of forward guidance is small when the economy is in a deep recession or households expect a slow recovery; (2) News shocks are more stimulative than unanticipated shocks at and away from the ZLB; (3) Forward guidance can have longer and larger cumulative effects on output without increasing the variance of the news shocks by redistributing the news over longer horizons.

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