The Behavior of Short-Term Interest Rates: International Evidence of Non-Linear Adjustment
AbstractThis study tests whether changes in the short-term interest rate can best be modelled in a non-linear fashion. We argue that there are good theoretical and empirical reasons for adopting this strategy. Using monthly data from several industrialized countries, namely Canada, Germany, Sweden, Switzerland, UK, and US, we show that the short-term interest rate movements are better explained, usually via the exponential smooth transition autoregression (ESTR). Unlike the existing literature on non-linear estimation, we consider a number of candidates for the transition variable. These include: an error correction term, estimated from an underlying cointegrating relationship predicted by the expectations hypothesis, the US term spread, the domestic spread, inflation and output growth forecasts, and deviations from an inflation target in the case of Canada, the UK and Sweden.The sample spans the period from 1960-1998. We reject linearity in the behavior of short-term interest rate changes and instead find support for a non-linear model with the (lagged) domestic spread as the transition variable. However, other more economically meaningful alternatives perform just as well. For example, in the case of the inflation targeting countries in our sample, the most appropriate transition variable can be the deviation from the publicly announced inflation target. We supplement estimates with extensive diagnostic testing of the non-linear model to ensure that we can reject the linear alternative with reasonable confidence. We believe that changes in central bank policies, and in the reaction of market participants over time to such changes, argue in favor of the non-linear estimation approach. We also argue that any model of the term structure estimated over a fairly long span of time necessitates resort to non-linear estimation methods.
Download InfoIf you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
As the access to this document is restricted, you may want to look for a different version under "Related research" (further below) or search for a different version of it.
Bibliographic InfoArticle provided by De Gruyter in its journal Studies in Nonlinear Dynamics & Econometrics.
Volume (Year): 10 (2006)
Issue (Month): 4 (December)
Contact details of provider:
Web page: http://www.degruyter.com
You can help add them by filling out this form.
CitEc Project, subscribe to its RSS feed for this item.
- Su Zhou, 2011. "Nonlinear stationarity of real interest rates in the EMU countries," Journal of Economic Studies, Emerald Group Publishing, vol. 38(6), pages 691-702, November.
- Cinzia Alcidi & Alessandro Flamini & Andrea Fracasso, 2011. "Policy Regime Changes, Judgment and Taylor rules in the Greenspan Era," Economica, London School of Economics and Political Science, vol. 78(309), pages 89-107, January.
- Catherine Kyrtsou & Costas Vorlow, 2008.
"Modelling non-linear comovements between time series,"
2008_01, Durham University Business School.
- Kyrtsou, Catherine & Vorlow, Costas, 2009. "Modelling non-linear comovements between time series," Journal of Macroeconomics, Elsevier, vol. 31(1), pages 200-211, March.
- Beyer, Andreas & Haug, Alfred A. & Dewald, William G., 2009. "Structural breaks, cointegration and the Fisher effect," Working Paper Series 1013, European Central Bank.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Peter Golla).
If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.
If references are entirely missing, you can add them using this form.
If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.
If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.
Please note that corrections may take a couple of weeks to filter through the various RePEc services.