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The effects of conventional and unconventional monetary policy on forecasting the yield curve

Yunjong Eo () and Kyu Ho Kang

Journal of Economic Dynamics and Control, 2020, vol. 111, issue C

Abstract: We investigate how conventional and unconventional monetary policies affect the dynamics of the yield curve by assessing the performance of individual yield curve models and their mixtures. Out-of-sample forecasts for U.S. bond yields show that the arbitrage-free Nelson–Siegel model and its mixtures with other models perform well in the period of conventional monetary policy, whereas the random walk model outperforms all the other models in the period of unconventional monetary policy. The diminished role of the no-arbitrage restriction in forecasting the yield curve since 2009 can be attributed to unconventional monetary policy, which resulted in low correlations between short- and long-term bond yields and little variation in the short-term rates. During the period of the maturity extension program in 2011–2012, the superiority of the random walk forecasts is more pronounced, reinforcing our finding that the monetary policy framework affects yield curve forecast accuracy.

Keywords: Operation twist; Dynamic Nelson–Siegel model; Arbitrage-free term structure model; Random walk model; Markov-switching mixture (search for similar items in EconPapers)
JEL-codes: C11 E43 E47 E52 G12 (search for similar items in EconPapers)
Date: 2020
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Working Paper: The Effects of Conventional and Unconventional Monetary Policy on Forecasting the Yield Curve (2019) Downloads
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DOI: 10.1016/j.jedc.2019.103812

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Journal of Economic Dynamics and Control is currently edited by J. Bullard, C. Chiarella, H. Dawid, C. H. Hommes, P. Klein and C. Otrok

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