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Policy Duration Effect under Zero Interest Rates: An Application of Wavelet Analysis

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  • Kunio Okina
  • Shigenori Shiratsuka

Abstract

A major feature of recent monetary policy in Japan has been heavy reliance on the so-called policy duration effect. This policy employs a commitment to compensate for the central bank’s inability to lower the interest rate below zero by altering the anticipated course of monetary policy actions. This paper analyzes the behavior of the yield curve and examines the effectiveness and limitations of monetary policy commitment under zero interest rates with four indicators for policy duration effect. Specifically, we extend our previous study (Okina and Shiratsuka (2003)) by applying wavelet analysis to indicators for policy duration effect. As in the previous study, the policy duration effect was found to be highly effective in stabilizing market expectations for the path of short-term interest rates, thereby reducing longer-term interest rates and flattening the yield curve. The policy duration effect, however, failed to reverse deflationary expectations in financial markets.

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Bibliographic Info

Paper provided by CESifo Group Munich in its series CESifo Working Paper Series with number 1138.

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Date of creation: 2004
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Handle: RePEc:ces:ceswps:_1138

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Keywords: zero interest rate policy; quantitative monetary easing; policy duration effects; policy commitment; wavelet analysis;

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References

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  1. Söderlind, Paul & Svensson, Lars E O, 1997. "New Techniques to Extract Market Expectations from Financial Instruments," CEPR Discussion Papers 1556, C.E.P.R. Discussion Papers.
  2. Christoph Schleicher, 2002. "An Introduction to Wavelets for Economists," Working Papers 02-3, Bank of Canada.
  3. Marvin Goodfriend, 1998. "Using the term structure of interest rates for monetary policy," Economic Quarterly, Federal Reserve Bank of Richmond, Federal Reserve Bank of Richmond, issue Sum, pages 13-30.
  4. Takeshi Kimura & Hiroshi Kobayashi & Jun Muranaga & Hiroshi Ugai, 2003. "The effect of the increase in the monetary base of Japan's economy at zero interest rates: an empirical analysis," BIS Papers chapters, in: Bank for International Settlements (ed.), Monetary policy in a changing environment, volume 19, pages 276-312 Bank for International Settlements.
  5. David Reifschneider & John C. Williams, 2000. "Three lessons for monetary policy in a low-inflation era," Conference Series ; [Proceedings], Federal Reserve Bank of Boston, pages 936-978.
  6. Nelson, Charles R & Siegel, Andrew F, 1987. "Parsimonious Modeling of Yield Curves," The Journal of Business, University of Chicago Press, vol. 60(4), pages 473-89, October.
  7. Tomohiro Sugo & Yuki Teranishi, 2008. "The Zero Interest Rate Policy," IMES Discussion Paper Series 08-E-20, Institute for Monetary and Economic Studies, Bank of Japan.
  8. Okina, Kunio & Shiratsuka, Shigenori, 2004. "Policy commitment and expectation formation: Japan's experience under zero interest rates," The North American Journal of Economics and Finance, Elsevier, vol. 15(1), pages 75-100, March.
  9. Fujiki, Hiroshi & Okina, Kunio & Shiratsuka, Shigenori, 2001. "Monetary Policy under Zero Interest Rate: Viewpoints of Central Bank Economists," Monetary and Economic Studies, Institute for Monetary and Economic Studies, Bank of Japan, Institute for Monetary and Economic Studies, Bank of Japan, vol. 19(1), pages 89-130, February.
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