Changes in the Relationship Between the Long-Term Interest Rate and its Determinants

William Lee and Eswar Prasad

No 1994/124, IMF Working Papers from International Monetary Fund

Abstract: This paper assesses the relative importance of alternative explanations for the rise in long-term interest rates in the United States from October 1993 to April 1994. Standard econometric models of the term structure are shown to have a structural break in the early 1980s. An important reason for this change in the traditional term structure relationship appears to be an increase in the responsiveness of long-term rates to changes in the stance of monetary policy. Augmented term structure models that explicitly incorporate the role of monetary policy in determining the level of long-term rates are then constructed. These models track variations in the long-term rate better than traditional term structure models, but still leave a significant fraction of the recent increase in long-term rates unexplained.

Keywords: WP; interest rate; rate; federal funds rate; equation; coefficient; long-term rate; monetary policy index; term structure equation; monetary policy coefficient; short-term rate; augmented equation; Long term interest rates; Short term interest rates; Monetary tightening; Yield curve; Monetary stance (search for similar items in EconPapers)
Pages: 30
Date: 1994-10-01
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Citations: View citations in EconPapers (3)

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