Yield curve responses to market sentiments and monetary policy

Markus Demary ()
Additional contact information
Markus Demary: Cologne Institute for Economic Research

Journal of Economic Interaction and Coordination, 2017, vol. 12, issue 2, No 6, 309-344

Abstract: Abstract Central banks recently started to target longer term interest rates. The empirical failure of the rational expectations theory of the yield curve, however, limits its applicability to monetary policy analysis. The success of agent-based behavioral asset pricing models and behavioral macroeconomic models in replicating statistical regularities of empirical data series motivates to apply them to yield curve modeling. This paper analyses how the interaction of monetary policy and market sentiments shape the yield curve in a behavioral model with heterogeneous and bounded-rational agents. One result is that the behavioral model replicates empirical facts of term structure data. Moreover, it overcomes one major deficiency of rational expectations models of the yield curve in explaining the empirically observed uncertain responses of longer term yields to changes in the central bank rate. These are explained by the behavioral model’s ability to generate different responses of market sentiments to shocks at different times which lead to a variety of interest rate responses. Further results of this paper can be used as policy advice on how central banks can target the level, slope and curvature of the yield curve by targeting market sentiments about inflation and the business cycle.

Keywords: Agent-based model; Behavioral macroeconomics; Heterogeneous interacting agents; Monetary policy; Term structure of interest rates; Yield curve (search for similar items in EconPapers)
JEL-codes: D83 E10 E17 E31 E32 E43 E52 E58 (search for similar items in EconPapers)
Date: 2017
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

Downloads: (external link)
http://link.springer.com/10.1007/s11403-015-0167-3 Abstract (text/html)
Access to the full text of the articles in this series is restricted.

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:spr:jeicoo:v:12:y:2017:i:2:d:10.1007_s11403-015-0167-3

Ordering information: This journal article can be ordered from
http://www.springer. ... ry/journal/11403/PS2

DOI: 10.1007/s11403-015-0167-3

Access Statistics for this article

Journal of Economic Interaction and Coordination is currently edited by A. Namatame, Thomas Lux and Shu-Heng Chen

More articles in Journal of Economic Interaction and Coordination from Springer, Society for Economic Science with Heterogeneous Interacting Agents Contact information at EDIRC.
Bibliographic data for series maintained by Sonal Shukla () and Springer Nature Abstracting and Indexing ().