Is the yield curve a useful Information variable for the Eurosystem?

The focus of this paper is on the use of the yield curve in monetary policy making. Theoretical arguments and a multi-country empirical analysis with an explicit focus on the euro area suggest the need for caution in case the Eurosystem uses the yield curve as an information variable for monetary policy, because multiple theoretical explanations exist for an observed movement in the yield curve, suggesting that policy reactions cannot be prescribed unambiguously. In addition, the empirical analysis shows that, in contrast with earlier findings of, for example, Hardouvelis (1994) and Bernard and Gerlach (1996), the information content of the yield curve is fairly limited. For the individual European countries participating in the Eurosystem as well as for the euro area as a whole, the yield spread possesses only very limited information relating to future movements in the inflation rate and output growth, over-and-above the information contained in the history of the latter variables. JEL Classification: E43, E52