Which Alternative to Choose: Does the Excess Sensitivity Hypothesis or A Time Varying Term Premium Explain the Failure of of the Rational Expectations Hypothesis of the Term Structure?

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Which Alternative to Choose: Does the Excess Sensitivity Hypothesis or A Time Varying Term Premium Explain the Failure of of the Rational Expectations Hypothesis of the Term Structure?

Author Info

Tzavalis, E.

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Elias Tzavalis

Abstract

Contrary to the predictions of the rational expectations hypothesis of theterm structure, empirical evidence suggests that the term spred between long and short rates fails toforecast future long term rates although its forecsts of future short term rates are in the correct direction. This paper examines 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.

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Paper provided by University of Exeter, School of Business and Economics in its series Discussion Papers with number 97/11.

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Length: 30 pages
Date of creation: 1997
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Handle: RePEc:fth:exetec:97/11

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Related research
Keywords: ECONOMETRICS;

Find related papers by JEL classification:
C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions
C23 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Models with Panel Data
C52 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Evaluation and Testing
E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Determination of Interest Rates; Term Structure of Interest Rates

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