The excess sensitivity of long-term interest rates and central bank credibility

Kwangyong Park

Economic Modelling, 2022, vol. 106, issue C

Abstract: Long-term interest rates show considerable reaction to macroeconomic shocks and news. This is, however, difficult to explain using standard rational expectations macro-finance models, as are widely used in policy analyses. In this research, we demonstrate that concerns regarding central bank credibility can account for the excess sensitivity of long-term interest rates, using an estimated macro-finance model that incorporates endogenously evolving perceptions about central bank credibility. In particular, long-term interest rates respond more strongly to macro shocks when credibility is lower. Quantitatively, two thirds of the observed decline in the volatility of U.S. long-term rates after the mid-1990s can be attributed to an increase of credibility in the Fed.

Keywords: Monetary policy; Credibility; Term structure; Excess sensitivity (search for similar items in EconPapers)
JEL-codes: D80 E03 E43 E58 (search for similar items in EconPapers)
Date: 2022
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (2)

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Working Paper: The Excess Sensitivity of Long-term Interest rates and Central Bank Credibility (2020)
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Persistent link: https://EconPapers.repec.org/RePEc:eee:ecmode:v:106:y:2022:i:c:s0264999321002972

DOI: 10.1016/j.econmod.2021.105708

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