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Exchange Rates, Interest Rates, and Money Stock Announcements: A Theoretical Exposition

Exchange Rates, Interest Rates, and Money Stock Announcements: A Theoretical Exposition
Author: G. Hardouvelis
Journal of International Money and Finance, December 1985, 4: 443-454.

Abstract:

When the Federal Reserve announces a larger than anticipated weekly level of the US money stock (Ml) the dollar appreciates and short-term interest rates increase because of an expected liquidity effect, but longterm interest rates and particularly long-run forward interest rates increase because of an expected inflation effect.

The two effects are not mutually exclusive but coexist when market participants are not completely sure of the Fed’s policy rule, and thus react in a weighted average manner with weights that reflect subjective probabilities about
different Federal Reserve money growth policies.

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