Which alternative to choose: does the excess sensitivity hypothesis or a time varying term premium explain the failure of the rational expectations hypothesis of the term structure?
AbstractContrary to the predictions of the rational expectations hypothesis of the term structure, empirical evidence suggest that the term spread between long and short rates fails to forecast future long term rates although its forecasts of future short term rates are in the correct direction. This paper examinines which of two popular alternative hypotheses - the excess sensitivity of the long term rate to the contemporaneous short term rate and the rational expectations hypothesis allowing for a time varying term premium - can explain the failure of the pure version of the expectations theory. Using US data at the short and long end of the term structure, the results clearly reject the excess sensitivity hypothesis, and suggest that the anomalies of the term spread can be attributed to the different way that the term premium affect each of the term spread models. It is found that the term premium influencing the term spread model forecasting future long rates is much more volatile than the term premium of the term spread model forecasting future short term rates. In order to remove the term premium biases from the slope of the term spread a simple model of the term premium is employed.
Download InfoTo our knowledge, this item is not available for download. To find whether it is available, there are three options:
1. Check below under "Related research" whether another version of this item is available online.
2. Check on the provider's web page whether it is in fact available.
3. Perform a search for a similarly titled item that would be available.
Bibliographic InfoPaper provided by Exeter University, Department of Economics in its series Discussion Papers with number 9711.
Date of creation: 1997
Date of revision:
Contact details of provider:
Postal: Streatham Court, Rennes Drive, Exeter EX4 4PU
Phone: (01392) 263218
Fax: (01392) 263242
Web page: http://business-school.exeter.ac.uk/about/departments/economics/
More information through EDIRC
Term structure; rational expectations; vector autoregression;
Find related papers by JEL classification:
- C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models
- C23 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Models with Panel Data; Longitudinal Data; Spatial Time Series
- C52 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Evaluation, Validation, and Selection
- E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
You can help add them by filling out this form.
reading list or among the top items on IDEAS.Access and download statistics
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Carlos Cortinhas).
If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.
If references are entirely missing, you can add them using this form.
If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.
If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.
Please note that corrections may take a couple of weeks to filter through the various RePEc services.