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Measuring Uncertainty in Monetary Policy Using Implied Volatility and Realized Volatility

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  • Bo Young Chang
  • Bruno Feunou
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    Abstract

    We measure uncertainty surrounding the central bank’s future policy rates using implied volatility computed from interest rate option prices and realized volatility computed from intraday prices of interest rate futures. Both volatility measures show that uncertainty decreased following the most important policy actions taken by the Bank of Canada as a response to the financial crisis of 2007-08, such as the conditional commitment of 2009-10, the unscheduled cut in the target rate coordinated with other major central banks, and the introduction of term purchase and resale agreements. We also find that, on average, uncertainty decreases following the Bank of Canada’s policy rate announcements. Furthermore, our measures of policy rate uncertainty improve the estimation of policy rate expectations from overnight index swap (OIS) rates by predicting the risk premium in the OIS market.

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    Bibliographic Info

    Paper provided by Bank of Canada in its series Working Papers with number 13-37.

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    Length: 43 pages
    Date of creation: 2013
    Date of revision:
    Handle: RePEc:bca:bocawp:13-37

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    Keywords: Credit and credit aggregates; Financial markets;

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