The Signal and the Noise

• Author: Duvvuri Subbarao

The Signal and the Noise Finance & Development, March 2016, Vol. 53, No. 1

Duvvuri Subbarao

Reflections on communication by a former Reserve Bank of India governor

ONE of the nice things about being a central bank governor is that the markets hang on every word you say, treating every syllable, nuance, and twitch of the face as a market cue. One of the stressful things about being a central bank governor is that the markets hang on every word you say, treating every syllable, nuance, and twitch of the face as a market cue. That about sums up both the opportunity and challenge of central bank communication.

Virtually all central bank governors have taken an ego trip on the magic of the words they spoke or rued the fallout from some miscommunication. Experience helps but doesn’t guarantee that markets will not deem what you said something other than what you believe that you said. I learned along the way—and sometimes the hard way.

There are powerful examples from around the world of how central banks have exploited the power of communication to enhance their policy effectiveness. Hours after the 9/11 terrorist attacks on the United States in 2001, the U.S. central bank put out a simple statement: “The Federal Reserve System is open and operating. The discount window is open to meet liquidity needs.”

These two seemingly banal sentences, coming so soon after the attacks, had a remarkably calming effect on U.S.—and global—financial markets. The “announcement effect” was striking.

Similarly, when the collapse of the euro seemed imminent, European Central Bank President Mario Draghi’s famous words in April 2012 that the central bank would do “whatever it takes” did more to save the euro than all the euro area leaders’ exhausting summits, emergency conclaves, and emphatic communiqués.

The positive impact of communication is not limited to times of crisis, however. Today’s conventional wisdom is that greater transparency, active outreach, and more open communication are always good for central banks.

Modernizing monetary policyAs an institution, the Reserve Bank of India is deeply sensitive to its responsibility to communicate with the public—not just on monetary policy but on the entire range of its broad mandate, which includes financial market developments, external sector management, regulatory issues, printing and distribution of currency, and economic development.

Giving forward guidance on monetary policy was a big and challenging institutional innovation introduced during my time. At the heart of forward guidance is an indication by the central bank to shape market expectations of how it would react to evolving macroeconomic developments, allowing market participants to make necessary adjustments.

Forward guidance on monetary policy was and is a contentious issue. At the Reserve Bank, we deliberated internally over whether to adopt the practice. We recognized that it is not a totally benign option, but decided to go ahead because we felt that the benefits outweighed the costs—especially given continuing global...