Why do markets react to words?

Abstract

Purpose

The purpose of this paper is to explain why central banking as a practice needs to be based on everyday language and communication because a central bank must be able to act flexibly. The meaning of a central bank’s language and communication is not a linear transferred meaning from the sender to the receiver. Language is not the gateway to transmitting a pre-given meaning. Whereas the meaning of a coded language is rooted in a pre-defined system independent of changing environment and context, everyday language is not. Expectation-building cannot be anchored in an artificial system such as formal language, codes and deductive premises based on formal language. In guiding expectations of economic agents, a central bank is a part of its own context through the language it uses in both its communication and in its policy of information disclosure concerning its own risk assessment.

Design/methodology/approach

The paper explains the constitutive function of language for common understanding in central banking and monetary policy.

Findings

The paper contributes to the literature on central bank communication and transparency.

Originality/value

The interaction between the markets and the central bank is understandable within a particular history and context which also helps to build up or to restore confidence in monetary transactions and relations.

Citation

Muchlinski, E. (2014), "Why do markets react to words?", On the Horizon, Vol. 22 No. 4, pp. 318-327. https://doi.org/10.1108/OTH-08-2014-0029