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Below the zero lower bound: A shadow-rate term structure model for the euro area

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  • Lemke, Wolfgang
  • Vladu, Andreea L.

Abstract

We propose an arbitrage-free shadow-rate term structure model to analyze the euro-area yield curve from 1999 to mid-2015, when bond yields turned negative at various maturities. In the model the 'shadow rate' can reach any positive or negative level, while the actual one-month rate cannot fall below some lower bound perceived by market participants. This bound is estimated to have first ranged marginally above zero, before falling to -11 bps in September 2014. We show analytically that the lower bound itself can be interpreted as a 'policy parameter' and interpret the September 2014 ECB rate cut from this perspective. Our model improves upon a standard Gaussian affine model by providing a better match with survey forecasts of short-term rates during the low-rate period and by capturing the decline in yield volatility. The model implies that since mid-2012, the median horizon after which future short rates are expected to return to 25 bps has ranged between 18 and 62 months. However, the liftoff timing, as well as the quantification of forward premia, is highly sensitive to the level of the lower bound.

Suggested Citation

  • Lemke, Wolfgang & Vladu, Andreea L., 2016. "Below the zero lower bound: A shadow-rate term structure model for the euro area," Discussion Papers 32/2016, Deutsche Bundesbank.
  • Handle: RePEc:zbw:bubdps:322016
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    References listed on IDEAS

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    Cited by:

    1. Gerhard Rösl & Franz Seitz & Karl-Heinz Tödter, 2017. "Besser ohne Bargeld? Gesamtwirtschaftliche Wohlfahrtsverluste der Bargeldabschaffung," ROME Working Papers 201706, ROME Network.
    2. Hartmann, Philipp & Smets, Frank, 2018. "The first twenty years of the European Central Bank: monetary policy," Working Paper Series 2219, European Central Bank.
    3. Sarah Mouabbi & Jean‐Guillaume Sahuc, 2019. "Evaluating the Macroeconomic Effects of the ECB's Unconventional Monetary Policies," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 51(4), pages 831-858, June.
    4. Stefan Avdjiev & Leonardo Gambacorta & Linda S. Goldberg & Stefano Schiaffi, 2017. "The Shifting Drivers of Global Liquidity," NBER Working Papers 23565, National Bureau of Economic Research, Inc.
    5. repec:gam:jijfss:v:5:y:2017:i:2:p:12-:d:95264 is not listed on IDEAS
    6. Zhou, Siwen, 2018. "Measuring the Signaling Effect of the ECB’s Asset Purchase Programme at the Effective Lower Bound," MPRA Paper 87084, University Library of Munich, Germany.
    7. David Byrne & Robert Kelly, 2019. "Bank asset quality & monetary policy pass-through," Applied Economics, Taylor & Francis Journals, vol. 51(23), pages 2501-2521, May.
    8. repec:nse:ecosta:ecostat_2017_494-495-496_4 is not listed on IDEAS
    9. Margherita Bottero & Camelia Minoiu & José-Luis Peydró & Andrea Polo & Andrea F. Presbitero & Enrico Sette, 2019. "Negative Monetary Policy Rates and Portfolio Rebalancing: Evidence from Credit Register Data," Working Papers 1090, Barcelona Graduate School of Economics.
    10. Mariarosaria Comunale & Jonas Striaukas, 2017. "Unconventional monetary policy: interest rates and low inflation: A review of literature and methods," CAMA Working Papers 2017-29, Centre for Applied Macroeconomic Analysis, Crawford School of Public Policy, The Australian National University.
    11. Cieslak, Anna & Schrimpf, Andreas, 2019. "Non-monetary news in central bank communication," Journal of International Economics, Elsevier, vol. 118(C), pages 293-315.
    12. repec:eee:jbfina:v:97:y:2018:i:c:p:270-282 is not listed on IDEAS
    13. Barbara Rossi, 2018. "Identifying and estimating the effects of unconventional monetary policy in the data: How to do It and what have we learned?," Economics Working Papers 1641, Department of Economics and Business, Universitat Pompeu Fabra.
    14. Ad Van Riet, 2017. "The ECB’s Fight against Low Inflation: On the Effects of Ultra-Low Interest Rates," International Journal of Financial Studies, MDPI, Open Access Journal, vol. 5(2), pages 1-27, April.
    15. Adam Elbourne & Kan Ji, 2019. "Do zero and sign restricted SVARs identify unconventional monetary policy shocks in the euro area?," CPB Discussion Paper 391, CPB Netherlands Bureau for Economic Policy Analysis.
    16. repec:bfr:rueban:2017:52 is not listed on IDEAS
    17. Monfort, Alain & Pegoraro, Fulvio & Renne, Jean-Paul & Roussellet, Guillaume, 2017. "Staying at zero with affine processes: An application to term structure modelling," Journal of Econometrics, Elsevier, vol. 201(2), pages 348-366.
    18. repec:eee:quaeco:v:69:y:2018:i:c:p:9-21 is not listed on IDEAS

    More about this item

    Keywords

    term structure of interest rates; lower bound; nonlinear state-space model; monetary policy expectations;

    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

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