Thomas Jordan: Policy-making under uncertainty - the importance of
maintaining a medium-term orientation
Welcoming remarks by Mr Thomas Jordan, Chairman of the Governing Board of the
Swiss National Bank, at the Third High-Level Conference on Global Risk, Uncertainty
and Volatility, jointly organised by the Swiss National Bank, Bank for International
Settlements and the Board of Governors of the Federal Reserve System, Zurich, 14
November 2023.
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Ladies and gentlemen
I am very pleased to welcome you to the Third High-Level Conference on Global Risk,
Uncertainty, and Volatility. Thank you all for taking the time to join us today. I would
especially like to thank our colleagues at the Bank for International Settlements and the
Federal Reserve Board for working together with us in organising this event.
The topic of this year's conference - policy-making under uncertainty - is highly
relevant. There is, for instance, substantial uncertainty regarding the impact of
accumulated monetary tightening on future inflation. There is also high uncertainty
about how the current geopolitical tensions will affect the global economy. These
examples illustrate just two of many different sources of uncertainty. So how can
policymakers, who should act with foresight, still take good decisions in such a highly
uncertain environment? At last year's conference, I explained the Swiss National Bank's
risk management approach to monetary policy. This approach is characterised by three
principles: pragmatism, consistency and determination.
A pragmatic risk management approach means choosing policies that deliver good
outcomes in many scenarios, rather than seeking policies that are optimal in one
particular scenario only but deliver poor outcomes in most others. We are also
pragmatic in the sense that we do not blindly rely on our models when taking monetary
policy decisions. Judgement has an important role to play. At the same time, our policy
has to be consistent. Policy decisions must always be geared towards the objective of
price stability. Finally, determination is important in preventing uncertainty from giving
rise to inherent indecision. A risk management approach to policy-making sometimes
requires decisive action.
Over the past year and a half, many central banks in advanced economies have used a
similar risk management approach. They have tightened monetary policy swiftly since
early 2022. Subsequently, headline inflation has come down. Core inflation is proving
sticky, but there are signs of progress here as well. Finally, labour markets have
remained robust and economic growth has been relatively resilient, even though there
are increasing signs of a slowdown in many countries.
Thus, the economic backdrop has changed greatly since last year's conference.
Monetary policy is now at a different point in the tightening cycle. However, in my
following remarks I will argue that central banks' risk management approach to
monetary policy should remain the same. I will also point out some challenges that
central banks are facing in the current situation.
Economic backdrop has changed, central banks' approach to
policymaking remains the same
The SNB kept its policy rate unchanged at its September monetary policy assessment.
However, we emphasised that price stability may not yet be ensured. Thus, we will not
hesitate to tighten monetary policy further if necessary. At the next meeting, we will
review whether the measures we have taken to date are sufficient to keep inflation
within the price stability range on a sustainable basis. To this end, we will monitor the
development of inflation closely in the coming weeks. The SNB thus remains pragmatic,
consistent and determined, in line with our risk management approach.
With inflation rates lower and interest rates higher than they were a year ago, it has
become considerably more difficult to balance the risk of tightening too much against
the risk of tightening too little. Many central banks have therefore also slowed or paused
tightening, while signalling that they remain focused on returning inflation to their
respective targets.
When central banks approach monetary policy turning points, the way forward is
particularly uncertain. Providing forward guidance in such situations carries high risks. A
central bank that gives strong forward guidance has to be fairly certain about the future
path of monetary policy. Suppose the economy moves in a direction that calls for a
monetary policy that is not in line with the forward guidance provided. This can put the
central bank in a dilemma. Either it deviates from its guidance, which can lead to a
communication problem and even a loss of credibility. Or it sticks to its guidance and
runs the risk of pursuing an inappropriate monetary policy. That is why central banks
have moved away from providing strong forward guidance at present.
Instead, many central banks are emphasising that their decisions are data-dependent.
The SNB, too, is highlighting the importance of incoming data. But what exactly do
central banks mean when they say their decisions are data-dependent? After all, central
banks always take a close look at the data. A useful interpretation would be as follows:
Given the high uncertainty regarding the economic outlook, there is no clearly
mappedout path for monetary policy in the near future. Therefore, central banks are using
incoming data to reassess the desirable path for monetary policy from meeting to
meeting.
Ladies and gentlemen, compared to a year ago, when monetary policy was being
tightened with large interest rate hikes, central banks are now proceeding more
cautiously. This is because there is less need to further tighten monetary policy given
the economic situation. It is not because of a change in central banks' approach, which
is still characterised by the three principles of pragmatism, consistency and
determination.
Data-dependent but with a clear medium-term orientation
However, proceeding in a data-dependent, meeting-by-meeting manner also entails
certain challenges. Let me mention two. The first challenge is not to fall into the
temptation of reacting to every data surprise with a substantial change in policy. Such
behaviour would result in an erratic monetary policy. As monetary policy affects the
economy only with a certain lag, frequent changes of direction would be
counterproductive.
Thus, while being data-dependent, central banks must maintain a medium-term
orientation. Their models, which incorporate medium-term relationships between
economic variables, can help them achieve this goal. Rather than reacting directly to
the data, central banks first let their models process the incoming data. By factoring in
different assumptions, the models provide decision-makers with scenarios for monetary
policy. But models only reflect reality to a limited extent. Therefore, outside information
- such as discussions with company managers and anecdotal evidence - support
central banks in checking the plausibility of the model results. And, finally, central banks
have to use judgement in deciding whether a new scenario has become more likely,
and whether a change in monetary policy is warranted.
A second challenge is how to communicate the currently high uncertainty about the
monetary policy outlook while still providing some guidance to households and
companies. Of course, central banks have to acknowledge that there is uncertainty
surrounding the monetary policy outlook. At the same time, they can give households,
companies and market participants a compass by clearly communicating their reaction
function. This includes information on how they deal with trade-offs. What are their
priorities when there are upside risks to inflation, but downside risks to economic
activity? The SNB has clearly communicated that its focus remains firmly on ensuring
price stability. We will not hesitate to tighten our monetary policy further if necessary in
order to keep inflation below 2% on a sustainable basis. Although this may not give
markets certainty about future monetary policy, it does provide some guidance.
Households and companies can continue to plan for stable prices in Switzerland in the
future.
Conclusion
Let me conclude. Central banks' risk management approach, which is guided by
pragmatism, consistency and determination, has served us all well in the fight against
inflation so far. We are well advised to stick to this approach. At the same time, we must
keep a medium-term orientation and communicate this clearly to the public and the
markets.
When the monetary policy outlook is very uncertain, an exchange of views as well as
the sharing of experiences and research findings between economists from universities
and central banks are particularly valuable. That is why I am very much looking forward
to the discussions and presentations at this conference.
Thank you for your attention.