Whom should we believe? Information content of the yield curve and analysts’ expectations
Expectations of market participants play an important role in monetary policy making. The main reason for this is that expectations influence the behaviour of investors and prices in financial markets. In this article, we present two sources of information on the expectations of financial market participants regarding the central bank’s policy rate. Both the yields of government securities and the survey of interest rate expectations conducted by Reuters contain information on what the market expects the future path of the policy rate to be, but sometimes these two sources of information convey substantially different messages. Our analysis helps to understand this phenomenon by shedding light on two key factors behind it. On the one hand, forward rates calculated from the yield curve contain a risk premium and exceed the expected value of the future central bank policy rate. On the other hand, analysts in the Reuters’ survey report the most likely value of the future central bank policy rate as their forecasts, instead of the average value of all possible scenarios. Finally, we claim that if the information from the two sources is interpreted properly – taking into account the previous factors – both sources contain valuable information for monetary policy making.
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- H. Bakhshi & G. Kapetanios & T. Yates, 2005.
"Rational expectations and fixed-event forecasts: An application to UK inflation,"
Springer, vol. 30(3), pages 539-553, October.
- Hasan Bakhshi & George Kapetanios & Anthony Yates, 2003. "Rational expectations and fixed-event forecasts: an application to UK inflation," Bank of England working papers 176, Bank of England.
- Jeffrey A. Frankel & Kenneth A. Froot, 1985. "Using Survey Data to Test Some Standard Propositions Regarding Exchange Rate Expectations," NBER Working Papers 1672, National Bureau of Economic Research, Inc. Full references (including those not matched with items on IDEAS)
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