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Does the Yield Spread Predict the Output Gap in the U.S.?

Yes, but only at short horizons from 1 to 3 quarters over the full post-World War II sample. The predictive relation between the yield spread and the output gap is characterized by parameter instability. Differently from the predictive models of the yield spread for output growth, structural instability is not due to a loss of predictive ability after 1985. Rather, the predictive relation estimated on post-1985 data holds for a range of horizons larger than for pre-1985 data. I also show that the information on current monetary policy is statistically irrelevant for the prediction of the output gap over the post-1985 subsample.

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Paper provided by Stockholm University, Department of Economics in its series Research Papers in Economics with number 2006:5.

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Length: 17 pages
Date of creation: 08 May 2006
Date of revision:
Handle: RePEc:hhs:sunrpe:2006_0005
Contact details of provider: Postal: Department of Economics, Stockholm, S-106 91 Stockholm, Sweden
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Web page: http://www.ne.su.se/
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  1. Richard Clarida & Jordi Galí & Mark Gertler, 1997. "Monetary policy rules and macroeconomic stability: Evidence and some theory," Economics Working Papers 350, Department of Economics and Business, Universitat Pompeu Fabra, revised May 1999.
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  11. Donald W.K. Andrews & Werner Ploberger, 1992. "Optimal Tests When a Nuisance Parameter Is Present Only Under the Alternative," Cowles Foundation Discussion Papers 1015, Cowles Foundation for Research in Economics, Yale University.
  12. James H. Stock & Mark W.Watson, 2003. "Forecasting Output and Inflation: The Role of Asset Prices," Journal of Economic Literature, American Economic Association, vol. 41(3), pages 788-829, September.
  13. Andrews, Donald W K, 1993. "Tests for Parameter Instability and Structural Change with Unknown Change Point," Econometrica, Econometric Society, vol. 61(4), pages 821-56, July.
  14. Rossi, Barbara & Giacomini, Raffaella, 2005. "How Stable is the Forecasting Performance of the Yield Curve for Outpot Growth?," Working Papers 05-08, Duke University, Department of Economics.
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  16. Joseph G. Haubrich & Ann M. Dombrosky, 1996. "Predicting real growth using the yield curve," Economic Review, Federal Reserve Bank of Cleveland, issue Q I, pages 26-35.
  17. Michael Dotsey, 1998. "The predictive content of the interest rate term spread for future economic growth," Economic Quarterly, Federal Reserve Bank of Richmond, issue Sum, pages 31-51.
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