Is There Hope for the Expectations Hypothesis?

Richard Crump, Stefano Eusepi and Emanuel Moench

No 1098, Staff Reports from Federal Reserve Bank of New York

Abstract: Most macroeconomic models impose a tight link between expected future short rates and the term structure of interest rates via the expectations hypothesis (EH). While systematically rejected in the data, existing work evaluating the EH generally assumes either full-information rational expectations or stationarity of beliefs, or both. As such, these analyses are ill-equipped to refute the EH when these assumptions fail to hold, leaving the door open for a “resurrection” of the EH. We introduce a model of expectations formation which features time-varying means and accommodates deviations from rationality. This model tightly matches the entire joint term structure of expectations for output growth, inflation, and the short-term interest rate from all surveys of professional forecasters in the U.S. We show that deviations from rationality and drifting long-run beliefs consistent with observed measures of expectations, while sizable, do not come close to bridging the gap between the term structure of expectations and the term structure of interest rates. Not only is the EH decisively rejected in the data, but model-implied short-rate expectations generally display, at best, only a weak co-movement with the forward rates of corresponding maturities.

Keywords: expectations formation; survey forecasts; expectations hypothesis (search for similar items in EconPapers)
JEL-codes: D84 E43 G12 (search for similar items in EconPapers)
Pages: 53
Date: 2024-04-01
New Economics Papers: this item is included in nep-mon
Note: Revised November 2024.
References: Add references at CitEc
Citations:

Downloads: (external link)
https://www.newyorkfed.org/medialibrary/media/research/staff_reports/sr1098.pdf Full text (application/pdf)
https://www.newyorkfed.org/research/staff_reports/sr1098.html Summary (text/html)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:fip:fednsr:98133

Ordering information: This working paper can be ordered from

DOI: 10.59576/sr.1098

Access Statistics for this paper

More papers in Staff Reports from Federal Reserve Bank of New York Contact information at EDIRC.
Bibliographic data for series maintained by Gabriella Bucciarelli ().