Time Variation in Term Premia: International Evidence

Christian Wolff, Willem Verschoor and Ron Jongen

No 4959, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: This paper examines the validity of the expectations hypothesis of the term structure of interest rates by means of a previously unexploited dataset of market expectations that covers a broad range of EMS versus non-EMS foreign currency deposits. Although we find strong evidence in favour of rejecting the ?pure? version of the expectations hypothesis, we still cannot reject the hypothesis that the forward rate is a biased estimate of future interest rate levels. Nevertheless, we find some evidence that the behaviour of market participants, when making predictions about the future level of interest rates, is not entirely in line with what rational behaviour would suggest. We also find that there is strong evidence of time-variation in the term structure of interest rates. Furthermore, while this variation in term premia can be very well explained by low-order variations of the ARMA class models, there is sufficient evidence that the conditional heteroskedasticity of term premia plays an important role in explaining the time-variation. Finally, no significant difference is found between the behaviour of EMS interest rate deposits and non-EMS deposits.

Keywords: Interest rate expectations; Ems; Expectations hypothesis; Rationality; Survey data; Term structure; Time-varying term premia (search for similar items in EconPapers)
JEL-codes: E42 E43 G15 (search for similar items in EconPapers)
Date: 2005-03
New Economics Papers: this item is included in nep-fin and nep-mac
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (9)

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