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Why do term structures in different currencies co-move?

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  • Jotikasthira, Chotibhak
  • Le, Anh
  • Lundblad, Christian

Abstract

Yield curve fluctuations across different currencies are highly correlated. This paper investigates this phenomenon by exploring the channels through which macroeconomic shocks are transmitted across borders. Macroeconomic shocks affect current and expected future short-term rates as central banks react to changing economic environments. Investors could also respond to these shocks by altering their required compensation for risk. Macroeconomic shocks thus influence bond yields both through a policy channel and through a risk compensation channel. Using data from the US, the UK, and Germany, we find that world inflation and US yield level together explain over two-thirds of the covariance of yields at all maturities. Further, these effects operate largely through the risk compensation channel for long-term bonds.

Suggested Citation

  • Jotikasthira, Chotibhak & Le, Anh & Lundblad, Christian, 2015. "Why do term structures in different currencies co-move?," Journal of Financial Economics, Elsevier, vol. 115(1), pages 58-83.
    • Handle: RePEc:eee:jfinec:v:115:y:2015:i:1:p:58-83
    DOI: 10.1016/j.jfineco.2014.09.004
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    More about this item

    Keywords

    Macro-finance term structure model; Interest rates; Cross-country co-movement;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • C58 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Financial Econometrics

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