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The forecasting power of internal yield curve linkages

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  • Modugno, Michele
  • Nikolaou, Kleopatra

Abstract

This paper investigates whether information from foreign yield curves helps forecast domestic yield curves out-of-sample. A nested methodology to forecast yield curves in domestic and international settings is applied on three major countries (the US, Germany and the UK). This novel methodology is based on dynamic factor models, the EM algorithm and the Kalman filter. The domestic model is compared vis-á-vis an international one, where information from foreign yield curves is allowed to enrich the information set of the domestic yield curve. The results have interesting and original implications. They reveal clear international dependency patterns, strong enough to improve forecasts of Germany and to a lesser extent UK. The US yield curve exhibits a more independent behaviour. In this way, the paper also generalizes anecdotal evidence on international interest rate linkages to the whole yield curve. JEL Classification: F31

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Bibliographic Info

Paper provided by European Central Bank in its series Working Paper Series with number 1044.

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Date of creation: Apr 2009
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Handle: RePEc:ecb:ecbwps:20091044

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Keywords: dynamic factor model; EM algorithm; international linkages; Yield curve forecast;

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Cited by:
  1. Penikas, Henry, 2008. "Forecasting for the Bank's Asset-Liability Management," Applied Econometrics, Publishing House "SINERGIA PRESS", vol. 12(4), pages 3-26.
  2. Mirko Abbritti & Salvatore Dell'Erba & Antonio Moreno & Sergio Sola, 2013. "Global Factors in the Term Structure of Interest Rates," IMF Working Papers 13/223, International Monetary Fund.

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