Estimating Term Structure Equations Using Macroeconomic Variables

Ray Fair ()

No 1634, Cowles Foundation Discussion Papers from Cowles Foundation for Research in Economics, Yale University

Abstract: This paper begins with the expectations theory of the term structure of interest rates with constant term premia and then postulates how expectations of future short term interest rates are formed. Expectations depend in part on predictions from a set of VAR equations and in part on the current and two lagged values of the short term interest rate. The results suggest that there is relevant independent information in both the VAR equations' predictions and the current and two lagged values of the short rate. The model fits the long term interest rate data well, including the 2004-2006 period, which some have found a puzzle. The properties of the model are consistent with the response of the long term U.S. Treasury bond rate to surprise price and employment announcements. The overall results suggest that long term rates can be fairly well explained by modeling expectation formation of future short term rates.

Keywords: Term structure equations; Expectations theory (search for similar items in EconPapers)
JEL-codes: E43 (search for similar items in EconPapers)
Pages: 24 pages
Date: 2008-01
New Economics Papers: this item is included in nep-cba, nep-mac and nep-mon
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Citations: View citations in EconPapers (1)

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Working Paper: Estimating Term Structure Equations Using Macroeconomic Variables (2008)
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