Inflation targeting and inflation communication of the Federal Reserve: Words and deeds

This paper utilizes recent advances in automated text analysis to investigate whether and how the shifting inflation focus in the monetary policy strategy of the Federal Reserve (Fed) is reflected in the transcripts of the Federal Open Market Committee (FOMC) meetings over the course of the last quarter century. We ascertain that inflation references have surged in the FOMC's communication long before the implementation of the Fed's explicit inflation targeting framework in 2012. We go on to assess whether the FOMC's inflation communication had a direct impact on the monetary policy decisions of the Fed by estimating Taylor-type rules augmented by the FOMC's tone-measured inflation references. We find these to induce quantitatively small but positive effects on the policy rate and the inflation reaction coefficient. In this sense, the FOMC communication on inflation reflects the Fed's monetary policy stance quite closely. However, all these effects already occur prior to 2012, whereas the actual implementation of the inflation targeting framework itself elicits no further monetary tightening. Our evidence is in line with the FOMC's communication at the time framing the implementation of inflation targeting as a continuation of the pursuit of the price stability objective rather than as a genuine change in the Fed's monetary policy regime.