The Overstated Effects of Conventional Monetary Policy

Executive Summary

Interest rate hikes aim to curb inflation by slowing the economy. Central banks raise rates to depress demand, reduce output, and loosen labour markets — thereby lowering price pressures. Yet this meta-analysis shows that the actual effects of such tightening are systematically smaller than the prevailing consensus suggests.

Conventional monetary policy’s effects have been overstated in the literature. A comprehensive meta-analysis of over 400 studies and 146,000 estimates shows that while headline results suggest a 100 basis point rate hike reduces output by up to 1% and prices by up to 0.75%, these numbers are inflated by systematic publication bias. Once corrected, the effects shrink significantly: output falls by no more than 0.5% and prices by no more than 0.25%. This implies that conventional wisdom has exaggerated the potency of monetary policy, overstating its role in managing inflation and stabilising output .

Publication bias, not methodology, drives the inflation of effect sizes. While identification strategies and study design influence reported results, their impact is quantitatively small compared to the bias introduced by selective reporting. Across methods, countries, and outlets, corrected estimates converge toward weaker effects. The result is robust evidence that the consensus view of monetary policy’s strength rests on distorted evidence rather than genuine differences in methodology or context.

Weaker effects imply higher output costs for disinflation. If monetary policy reduces prices only modestly relative to its output effects, the sacrifice ratio — the trade-off between disinflation and lost output — is higher than previously thought. This calls into question the reliance on interest rate policy alone to achieve price stability, particularly in environments where inflation is driven by supply shocks or structural factors beyond the central bank’s reach.

Policy recommendations

1. Reassess the power of conventional monetary policy, acknowledging that its effects on output and prices are smaller than commonly assumed.
2. Incorporate corrected evidence into models and forecasts, replacing inflated estimates that overstate monetary transmission.
3. Diversify the policy mix by complementing interest rate adjustments with fiscal, industrial, and structural tools better suited to addressing supply-side shocks.
4. Increase transparency in research publication, with stronger incentives to report null and small effects to reduce distortion in the evidence base.
5. Re-examine central bank communication, tempering claims about the potency of monetary tightening to avoid unrealistic expectations.