A Base Model for Multifactor Specifications of the Term Structure

Andrea Berardi and Marcello Esposito

Economic Notes, 1999, vol. 28, issue 2, 145-170

Abstract: type="main" xml:lang="en">

In this article, we aim to show that most of the recent multifactor specifications of the term structure can be traced back to a common general equilibrium model, based on an economy of the Cox, Ingersoll and Ross type. This base model of the term structure has a very general form and includes both square root and Gaussian dynamics of the underlying state variables. We establish a direct link among the state variables used in the different specifications of many multifactor models and analyse the structure of the resultant implied relationships. This technique has relevant implications from a practical point of view, as it can allow one to recover from the estimated coefficients of one model the implied value of the coefficients of other models. Moreover, it provides a way of recovering from the term structure the values of such unobservable variables as the real short rate and the expected inflation rate.

(J.E.L.: E43, G12).

Date: 1999
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