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Interest Rate Pass-through: A Nonlinear Vector Error-correction Approach

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  • Michal Ksawery Popiel

    (Queen's University)

Abstract

This paper analyzes pass-through from money market rates to consumer retail loan and deposit rates in Canada from 1983 to 2015 using a nonlinear vector error-correction model. This model permits estimation of long-run pass-through coefficients while simultaneously accounting for asymmetric adjustments and short-run dynamics. In contrast to empirical frameworks used in previous studies, it also allows testing of commonly made assumptions such as exogeneity of the market rate, making inference more robust. I find that pass-through was complete for all rates before the financial crisis although only after the mid 1990s for the 1 year mortgage rate. Since the end of the 2008--09 recession, pass-through remains complete in the mortgage market but has significantly declined for deposit rates. Furthermore, many rates adjust asymmetrically but the direction of rigidity differs among rates and time periods.

Suggested Citation

  • Michal Ksawery Popiel, 2016. "Interest Rate Pass-through: A Nonlinear Vector Error-correction Approach," Working Paper 1352, Economics Department, Queen's University.
  • Handle: RePEc:qed:wpaper:1352
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    File URL: https://www.econ.queensu.ca/sites/econ.queensu.ca/files/qed_wp_1352.pdf
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    References listed on IDEAS

    as
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    More about this item

    Keywords

    Interest rate pass-through; cointegration; asymmetric adjustment; nonlinear vector error-correction model;

    JEL classification:

    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages

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