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How Important is Disaggregation in Structural Models of Interest Rate Determination?

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  • Benjamin M. Friedman

Abstract

The results presented below demonstrate that the structural modeling approach to interest rate determination not only stands apart from the sectoral disaggregation question conceptually but also performs fairly well without sectoral disaggregation empirically. This paper presents estimation and dynamic simulation results for an aggregated equivalent to the disaggregated model of the determination of bond yields developed in Friedman (1977; 1979). Instead of six bond demand and two bond supply equations, here there are but one demand and one supply equation. The empirical results show that, while disaggregation is of value in structural interest rate modeling (that is, the disaggregated model outperforms the aggregated one), even the aggregated structural model performs very well in comparison with familiar unrestricted reduced-form term structure equations.

Suggested Citation

  • Benjamin M. Friedman, 1978. "How Important is Disaggregation in Structural Models of Interest Rate Determination?," NBER Working Papers 0294, National Bureau of Economic Research, Inc.
    • Handle: RePEc:nbr:nberwo:0294
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    1. Feldstein, Martin S & Chamberlain, Gary, 1973. "Multimarket Expectations and the Rate of Interest," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 5(4), pages 873-902, November.
    2. Friedman, Benjamin Morton, 1977. "Financial Flow Variables and the Short-Run Determination of Long-Term Interest Rates," Scholarly Articles 4554309, Harvard University Department of Economics.
    3. Fair, Ray C, 1970. "The Estimation of Simultaneous Equation Models with Lagged Endogenous Variables and First Order Serially Correlated Errors," Econometrica, Econometric Society, vol. 38(3), pages 507-516, May.
    4. repec:bla:econom:v:40:y:1973:i:157:p:12-43 is not listed on IDEAS
    5. Friedman, Benjamin M & Roley, V Vance, 1979. "Investors' Portfolio Behavior under Alternative Models of Long-Term Interest Rate Expectations: Unitary, Rational, or Autoregressive," Econometrica, Econometric Society, vol. 47(6), pages 1475-1497, November.
    6. Friedman, Benjamin M, 1977. "Financial Flow Variables and the Short-Run Determination of Long-Term Interest Rates," Journal of Political Economy, University of Chicago Press, vol. 85(4), pages 661-689, August.
    7. Feldstein, Martin S & Eckstein, Otto, 1970. "The Fundamental Determinants of the Interest Rate," The Review of Economics and Statistics, MIT Press, vol. 52(4), pages 363-375, November.
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    Cited by:

    1. Christopher J. Green & Victor Murinde, 2003. "Flow of funds: implications for research on financial sector development and the real economy," Journal of International Development, John Wiley & Sons, Ltd., vol. 15(8), pages 1015-1036.

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