Bernanke's New Transparency

The stock markets want to know everything about the Fed's deliberations, but they don't always digest the information well

by Peter Coy

Chip Somodevilla/Getty Images

• View Slide Show

The Federal Reserve is pulling up the shades. Is this a good thing?

When it comes to Fed talk, how much is too much information? We may find out soon, because on Nov. 14, Federal Reserve Chairman Ben Bernanke announced a new policy of disclosing more information, more frequently. We'll soon be getting economic forecasts from the Fed four times a year instead of twice. The Fed's forecasts will extend three years into the future instead of two.

And the forecasts will cover more stuff. The most important addition is a forecast of "headline" inflation—that is, the predicted increase in the overall price level, not just the "core" inflation rate that excludes food and energy.

The Fed's moves have been watched even more closely than usual in recent months. With the housing slump and credit crisis, comments from the Fed have had an unusually strong impact on stocks, particularly those of financial firms like Merrill Lynch (MER), Citigroup (C), and Bear Stearns (BSC) and homebuilders like Pulte Homes (PHM), Lennar (LEN), and Centex (CTX).

Bernanke is very much in the economic mainstream in favoring more disclosure. Central banks around the world, from Britain to New Zealand to continental Europe to the Fed itself, have been providing more and more information about how they go about setting interest rates. One idea of disclosure is that it builds public support. People are more likely to tolerate an increase in interest rates, so the theory goes, if they have a thorough understanding of what went into the Fed's decision.

Jittery Markets

On the other hand, the financial markets just might react with a bad case of TMI—too much information. That's the feeling you get when your brother-in-law starts describing his gall-bladder operation in intimate detail. Some things you just don't want to know.

Actually, the case of the markets is a little different from the case of the gall bladder. Markets really are hungry for every scrap of information about the Fed's deliberations, but they don't always digest the information well. They can overreact. Economists have found that instead of calming the markets, more information can sometimes rile them. Prices can spiral upward, or downward, because of the injection of a tiny and relatively meaningless shred of information.

Ben Bernanke's words move world markets, so he weighs them carefully. Yet even he and other Fed members inadvertently cause gyrations because of some ill-considered turn of phrase—to the point where traders who get caught off guard sometimes wish the regulators would just shut up. There is a cartoon of two dogs talking to each other. One says, "I had my own blog for awhile, but I decided to go back to just pointless, incessant barking." Let's hope the Fed, in its campaign for openness, stops well short of that.

Coy is BusinessWeek's Economics Editor .