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How do zero-coupon inflation swaps predict inflation rates in the euro area? Evidence of efficiency and accuracy on 1-year contracts

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  • Pedro Pires Ribeiro

    (Banco de Portugal
    UNIDE, Complexo INDEG/ISCTE)

  • José Dias Curto

    (UNIDE, Complexo INDEG/ISCTE)

Abstract

This paper examines the risk-neutral efficient market hypothesis for inflation swap markets in the euro area from 2005.10 to 2014.07. Overall, we conclude that 1-year zero-coupon inflation swap rates are unbiased predictors of inflation rates. Further, there is no empirical evidence of an inflation risk premium and the assumption of rationality seems to hold. Definitely, these inferences encourage the reading of inflation expectations embedded in short-term inflation swaps. Additionally, we compare the predictive ability of inflation swaps with other measures of inflation expectations. The in-sample results show that, in contrast with surveys, market-based measures are able to accurately forecast inflation rates. In turn, based on an out-of-sample analysis, a straightforward econometric model dominates other sources. Therefore, a combined analysis that uses different sources contributes to a more robust view of future inflation rates.

Suggested Citation

  • Pedro Pires Ribeiro & José Dias Curto, 2018. "How do zero-coupon inflation swaps predict inflation rates in the euro area? Evidence of efficiency and accuracy on 1-year contracts," Empirical Economics, Springer, vol. 54(4), pages 1451-1475, June.
    • Handle: RePEc:spr:empeco:v:54:y:2018:i:4:d:10.1007_s00181-017-1268-8
    DOI: 10.1007/s00181-017-1268-8
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    2. Tsang, Andrew & Yiu, Matthew S. & Nguyen, Huy Toan, 2021. "Spillover across sovereign bond markets between the US and ASEAN4 economies," Journal of Asian Economics, Elsevier, vol. 76(C).

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    More about this item

    Keywords

    Inflation swaps; Inflation forecasting; Market efficiency; Rational expectations; Risk premium; Euro area;
    All these keywords.

    JEL classification:

    • C13 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Estimation: General
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G17 - Financial Economics - - General Financial Markets - - - Financial Forecasting and Simulation
    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation

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