Analyzing the Effect of Central Bank Communication on Stock Markets and Exchange Rates

As communication becomes an increasingly important monetary policy tool, central banks must consider the influence of greater transparency on the financial markets. Greater transparency can be an additional source of volatility leading to broader macroeconomic problems. This paper analyzes the effects of central bank communication on the financial markets, focusing specifically on stock markets and exchange rates. Using an event study analysis on a panel dataset, it is determined that greater central bank communication reduces stock returns but appreciates the local currency. However, the effects of greater communication are asymmetrical and depend on the economic development of the country and the direction of the policy rate change. Consequently, central banks must analyze how their communication will be transmitted and utilized by the private sector to determine the overall effects of greater transparency and to mitigate any financial instability