Monetary Policy Surprises and Interest Rates: Evidence from the Fed Funds Futures Market
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What they found
Kuttner showed how to separate the expected part of a Fed rate decision from the surprise part using the change in the fed funds futures price on the announcement day. Applied to FOMC decisions from 1989 to 2000, the expected component had no effect on Treasury yields (it was already priced), while the surprise component moved yields across the curve, with the largest effect at short maturities. The method became the standard tool for measuring monetary policy shocks and is the basis for every 'Fed surprise' study since.
What you can use
- Markets react to the surprise in a Fed decision, not the decision itself; a fully expected hike does nothing on the day.
- The fed funds futures curve tells you what is priced in; the move in that curve after the announcement is the surprise.
- Short-term yields respond most to surprises; long-term yields respond less and sometimes in the opposite direction.
Caveats
Sample from 1989 to 2000, before forward guidance and quantitative easing changed how policy is communicated. Measures the target-rate surprise only, not surprises about the future path.
Tags: macro, fed, monetary-policy, fed-funds-futures
Summaries are our own reading of the paper, not the authors' words. Educational only, not advice. Discuss it in Book Club.