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Fiscal Policy and the Term Premium in Real Interest Rate Differentials

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  • Thomas J. Flavin

    ()
    (Economics, National University of Ireland, Maynooth)

  • Michele G. Limosani

    (Universita di Messina, Italy.)

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    Abstract

    This paper seeks to identify the source of the risk premium in real interest rate differentials across European countries. In particular, we examine the link between real interest rate differentials, existing between various European countries and Germany, and domestic fiscal policy as proxied by the Debt/GDP ratios in these countries. Our results provide strong evidence that this variable exerts a significant influence on the determination of both the level and the volatility of the differential for both long term and short term interest rates. This is a noteworthy result bearing in mind the Maastricht criteria for European Monetary Union and the importance attached to convergence of Debt/GDP ratios.

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    File URL: http://economics.nuim.ie/sites/economics.nuim.ie/files/working-papers/N830498.pdf
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    Bibliographic Info

    Paper provided by Department of Economics, Finance and Accounting, National University of Ireland - Maynooth in its series Economics, Finance and Accounting Department Working Paper Series with number n830498.

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    Length: 12 pages
    Date of creation: Apr 1998
    Date of revision:
    Handle: RePEc:may:mayecw:n830498

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    Phone: 353-1-7083728
    Fax: 353-1-7083934
    Web page: http://economics.nuim.ie
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    Keywords: Fiscal policy; interest rate differentials.;

    References

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    1. Bollerslev, Tim, 1986. "Generalized autoregressive conditional heteroskedasticity," Journal of Econometrics, Elsevier, vol. 31(3), pages 307-327, April.
    2. Tobin, James, 1981. "Money and Finance in the Macro-Economic Process," Nobel Prize in Economics documents 1981-1, Nobel Prize Committee.
    3. Thoms, S. H., 1993. "An international CAPM for bonds and equities," Journal of International Money and Finance, Elsevier, vol. 12(4), pages 390-412, August.
    4. Charles Engel & Anthony Rodrigues, 1990. "Tests of mean-variance efficiency of international equity markets," Research Working Paper 90-05, Federal Reserve Bank of Kansas City.
    5. James Tobin, 1956. "Liquidity Preference as Behavior Towards Risk," Cowles Foundation Discussion Papers 14, Cowles Foundation for Research in Economics, Yale University.
    6. Frankel, Jeffrey A. & MacArthur, Alan T., 1988. "Political vs. currency premia in international real interest differentials : A study of forward rates for 24 countries," European Economic Review, Elsevier, vol. 32(5), pages 1083-1114, June.
    7. Engel, Charles & Rodrigues, Anthony P, 1989. "Tests of International CAPM with Time-Varying Covariances," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 4(2), pages 119-38, April-Jun.
    8. Harry Markowitz, 1952. "Portfolio Selection," Journal of Finance, American Finance Association, vol. 7(1), pages 77-91, 03.
    9. Andrew Clare & Raymond O'Brien & Stephen Thomas & Michael Wickens, . "Macroeconomic Shocks and the Domestic CAPM: Evidence from the UK Stock Market," Discussion Papers 94/10, Department of Economics, University of York.
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