Interest rate pass-through in the major European economies - the role of expectations

Anindya Banerjee, Victor Bystrov and Paul Mizen

Discussion Papers from Department of Economics, University of Birmingham

Abstract: Much of the literature on interest rate pass through assumes banks set retail rates in relation to contemporary market rates. We argue that future rates also matter, and if forecasts of future rates are included, the empirical specifications of many previous studies are misspecified. Including forecasts rquires careful choice of the data and models used to make forecasts: a large number of variables could influence future market rates, suggesting that factor forecasts method may be an appropriate method to consider. We evaluate forecasts before including them in a model of retail rate adjustment for five interest rates in five European countries and the euro area as a whole. We find a significant role for forecasts of future interest rates in determining short- and long-run pass through, and we show that models which do not include future rates do not provide accurate estimates.

Keywords: forecasting; factor models; interest rate pass-through (search for similar items in EconPapers)
JEL-codes: C32 C53 E43 E47 (search for similar items in EconPapers)
Pages: 50 pages
Date: 2010-02
New Economics Papers: this item is included in nep-cba, nep-eec and nep-for
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (7)

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Related works:
Working Paper: Interest rate Pass-Through in the Major European Economies - The Role of Expectations (2010)
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Persistent link: https://EconPapers.repec.org/RePEc:bir:birmec:10-07

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