Zero-coupon yield curve estimation from a central bank perspective

Since in recent years a relatively liquid and transparent market of government securities has emerged in Hungary, it seems straightforward for the monetary authority to try to extract information about market expectations of future nominal interest rates and inflation from the prices of these assets. However, drawing a conclusion from the prices of T-bills and -bonds concerning either nominal interest rate- or inflation expectations is by far not an easy task, both because of its technical complexity and the assumptions which often remain implicit in the process. The primary motivation of this paper is to present some methods by which the major technical obstacle, i.e. the estimation of the zero-coupon yield curve from couponbearing bond price data can be done, and also to evaluate these methods in terms of suitability to current Hungarian data and practical use in monetary policy. In addition to this, I would like to emphasize and make explicit some often overlooked assumptions (especially the expectations hypothesis) needed to draw conclusions about market expectations of future nominal rates and inflation. Using the estimated zero-coupon rates, I also try to quantify the average difference between yields-tomaturities (YTMs) of coupon bonds and the corresponding zero-coupon rates in Hungary. The structure of the paper is as follows: Section 1.1 and 1.2 describe the basic concepts and definitions related to the yield curve, and compare zero-coupon curves with yield-to-maturity curves, focusing on the theoretical shortcomings of the latter. Section 1.3 defines implied forward rates, and shows how to interpret them. Section 1.4 focuses on the conditions which are necessary to hold if one wants to infere nominal interest rate and inflation expectations from the zero-coupon yield curve. Part 2 deals with some methodological issues of the estimation of zero-coupon yield curves and compares alternative estimation methods on the basis of their applicability to Hungarian data and monetary policy purposes. Sections 2.1 and 2.2 give the descriptions of the two methods examined in detail in this paper, i.e. polynomial fit and “parsimonious” models. Section 2.3 deals with data issues that arise when we try to estimate yield curves using Hungarian bond price data. Section 2.4 lists some of the criteria which can be used to select a particular estimation method and (where it is possible) compares the methods applied to Hungarian data on the basis of these criteria. Section 2.5 contains the method proposed for future use in the NBH. Part 3 is an application of the estimated zero-coupon yields, which empirically demonstrates the bias in YTM-type yield curves when the underlying zero curve is non-horizontal. More specifically, in this part I try to quantify the inherent bias in the daily “benchmark yields” calculated by the State Debt Management Agency (SDMA).

The use of staff policy recommendations in central banks

The focus of this paper is on the use of staff policy recommendations in central banks. Based on the responses to a recent survey conducted by the Bank of International Settlements, the paper tries to answer two questions. (1) How (to what extent) do central bank decision-makers make use of staff views regarding the appropriate policy? (2) What institutional features determine the extent to which staff policy views are utilised by decision-makers? The ‘weight’ with which staff policy views are taken into account is proxied by how explicitly they are presented to the policy board. Based on the survey responses about how staff policy views are presented, a Staff Recommendation Explicitness Index (SREI) is constructed for each central bank surveyed. SREI is then regressed on a number of candidate explanatory variables. The results suggest that the use of staff policy views, proxied by SREI, is negatively related to the size of the policy committee. Furthermore, the use of staff policy views seems more pronounced if the committee is consensus-seeker and if the monetary regime is inflation targeting. Tentative explanations are offered for each of these findings.monetary policy, central bank staff, committee, decision-making

Information in T-bill Auction Bid Distributions

In this paper UK data is used to compare two potential sources of information regarding market uncertainty about future short interest rates. One is the so-called risk-neutral density function (RND) derived from interest rate option prices, the other is the distribution of bids submitted to an auction of short-term Treasury bills. More specifically, time series of RND standard deviations and auction bid standard deviations are compared. The results suggest that in some periods the auction bid standard deviations co-moved with those of the RNDs. Thus, in principle, auction bid standard deviations may be useful to get a picture of market uncertainty about future short rates even in the absence of well-developed interest rate options markets. In the Supplement, encouraged by the above results, the author uses Hungarian T-bill auction data to check whether auction bid dispersion measures in Hungary make any sense as indicators of market uncertainty about future interest rates. Lacking any RND data for this country, this can only be done in indirect ways. These include looking at the correlations of auction dispersion measures of different T-bill maturities, comparing the time series of these measures and bid-ask spreads (another possible indicator of uncertainty) and conducting an intuitive consistency check for a certain time period.

The use of staff policy recommendations in central banks

The focus of this paper is on the use of staff policy recommendations in central banks. Based on the responses to a recent survey conducted by the Bank of International Settlements, the paper tries to answer two questions. (1) How (to what extent) do central bank decision-makers make use of staff views regarding the appropriate policy? (2) What institutional features determine the extent to which staff policy views are utilised by decision-makers? The 'weight' with which staff policy views are taken into account is proxied by how explicitly they are presented to the policy board. Based on the survey responses about how staff policy views are presented, a Staff Recommendation Explicitness Index (SREI) is constructed for each central bank surveyed. SREI is then regressed on a number of candidate explanatory variables. The results suggest that the use of staff policy views, proxied by SREI, is negatively related to the size of the policy committee. Furthermore, the use of staff policy views seems more pronounced if the committee is consensus-seeker and if the monetary regime is inflation targeting. Tentative explanations are offered for each of these findings

Foreign currency borrowing of households in new EU member states

The post-Lehman phase of the financial crisis has exposed a number of weaknesses in the banking sectors of the European Union’s New Member States (NMSs). One of these is the prevalence of lending in foreign currency. While banks themselves in these countries have not taken on sizeable currency risk directly, they passed it on to households and the corporate sector. With large depreciations taking place or looming in the region, the currency risk at households and corporates without a natural hedge is now being transformed into credit risk for the banking sector. This is creating a serious problem in maintaining financial stability and cripples monetary policy in countries where it operates primarily through the exchange rate channel. The patterns of foreign currency lending to households in NMSs vary widely both across countries and time periods. For example, FX lending to households is virtually non-existent in the Czech Republic while in some Baltic countries its share is close to 100 per cent of total household lending. The main goal of the paper is (1) to present the stylised facts of pre-crisis FX lending in NMSs systematically and (2) to try to explain these differing patterns in an econometric model. In order to do so, a panel database of household FX borrowing is compiled, covering 10 NMSs in the period 1999-2008. Our estimation results suggest that the degree of household FX borrowing depends on the interest rate differential, the institutional features of mortgage financing and the monetary regime. Household FX borrowing tends to be less prevalent if the interest rate differential is small, fixed interest rate mortgage financing is available and the monetary authority’s “fear of floating” is low.foreign currency lending, new member states, credit risk, monetary policy

Adopting the euro in Hungary: expected costs, benefits and timing

Accession to the Economic and Monetary Union is one of the most important steps in Hungary's European integration, which will entail abandoning the national currency and adopting the euro as domestic legal tender. For Hungary as a new member state in the EU, introduction of the euro will not be an option but an obligation. Nevertheless, new EU members will have some leeway to set the date of adopting the euro1. Therefore, it is useful to analyse the likely costs and benefits of joining the euro area for Hungary and to define the choice of medium-term economic policy strategy in the light of the results of this analysis. The National Bank of Hungary would like to contribute to the formulation of an economic policy strategy by issuing this volume, which contains a cost-benefit analysis of the likely effects of the country's joining the euro area. This analysis is confined strictly to the economic benefits and costs of introducing the euro and is not intended to examine its other possible impacts, including, for example, the implications for politics and national security. Adopting the euro will likely have a permanent impact on Hungarian economic growth. This impact will become evident through numerous channels. Bank staff have attempted to quantify and sum up the extent of this impact transmitted through the various channels. The findings of this analysis suggest that the introduction of the euro will bring about significant net gains in growth. However, welfare is influenced not only by the level and rate of GDP growth, but their stability as well. A widely fluctuating national income will produce lower welfare than a more stable one, even if on average the two income levels are identical. For this reason, it is important to examine whether joining the euro area will increase or mitigate the volatility of business cycles. In other words, the key question is whether Hungary and the euro area form an optimum currency area, that is whether the monetary policy of the euro area is capable of adequately substituting independent Hungarian monetary policy in smoothing out cyclical fluctuations. In the findings of this analysis, the euro area seems to be in most respects at least as optimal a currency area for Hungary as for less developed euro area member countries.currency union, convergence, monetary policy, fiscal policy.

Hungary's eurozone entry date: What do the markets think and what if they change their minds?

This article investigates the potential impact of a shift in market expectations about a country's eurozone entry date on long-term yields and the spot exchange rate in a simple uncovered interest parity (UIP) framework. The results suggest that the size of the reactions depend on how far the entry date is postponed, how far current inflation is from the Maastricht-satisfying level, and whether the credibility of the central bank's target inflation path is sensitive to changes in the expected entry date. In the empirical part, the authors apply the framework for Hungary and draw some policy conclusions for the timing of ERM II entry

Foreign currency borrowing of housholds in new EU member states

The post-Lehman phase of the financial crisis has exposed a number of weaknesses in the banking sectors of the European Union's New Member States (NMSs). One of these is the prevalence of lending in foreign currency. While banks themselves in these countries have not taken on sizeable currency risk directly, they passed it on to households and the corporate sector. With large depreciations taking place or looming in the region, the currency risk at households and corporates without a natural hedge is now being transformed into credit risk for the banking sector. This is creating a serious problem in maintaining financial stability and cripples monetary policy in countries where it operates primarily through the exchange rate channel. The patterns of foreign currency lending to households in NMSs vary widely both across countries and time periods. For example, FX lending to households is virtually non-existent in the Czech is close to 100 per cent of total household lending. The main goal of the paper is (1) to present the stylised facts of pre-crisis FX lending in NMSs systematically and (2) to try to explain these differing patterns in an econometric model. In order to do so, a panel database of household FX borrowing is compiled, covering 10 NMSs in the period 1999-2008. Our estimation results suggest that the degree of household FX borrowing depends on the interest rate differential, the institutional features of mortgage financing and the monetary regime. Household FX borrowing tends to be less prevalent if the interest rate differential is small, fixed interest rate mortgage financing is available and the monetary authority's 'fear of floating' is low

Increased Short-Term Beat-To-Beat Variability of QT Interval in Patients with Acromegaly.

Cardiovascular diseases, including ventricular arrhythmias are responsible for increased mortality in patients with acromegaly. Acromegaly may cause repolarization abnormalities such as QT prolongation and impairment of repolarization reserve enhancing liability to arrhythmia. The aim of this study was to determine the short-term beat-to-beat QT variability in patients with acromegaly. Thirty acromegalic patients (23 women and 7 men, mean age+/-SD: 55.7+/-10.4 years) were compared with age- and sex-matched volunteers (mean age 51.3+/-7.6 years). Cardiac repolarization parameters including frequency corrected QT interval, PQ and QRS intervals, duration of terminal part of T waves (Tpeak-Tend) and short-term variability of QT interval were evaluated. All acromegalic patients and controls underwent transthoracic echocardiographic examination. Autonomic function was assessed by means of five standard cardiovascular reflex tests. Comparison of the two groups revealed no significant differences in the conventional ECG parameters of repolarization (QT: 401.1+/-30.6 ms vs 389.3+/-16.5 ms, corrected QT interval: 430.1+/-18.6 ms vs 425.6+/-17.3 ms, QT dispersion: 38.2+/-13.2 ms vs 36.6+/-10.2 ms; acromegaly vs control, respectively). However, short-term beat-to-beat QT variability was significantly increased in acromegalic patients (4.23+/-1.03 ms vs 3.02+/-0.80, P<0.0001). There were significant differences between the two groups in the echocardiographic dimensions (left ventricular end diastolic diameter: 52.6+/-5.4 mm vs 48.0+/-3.9 mm, left ventricular end systolic diameter: 32.3+/-5.2 mm vs 29.1+/-4.4 mm, interventricular septum: 11.1+/-2.2 mm vs 8.8+/-0.7 mm, posterior wall of left ventricle: 10.8+/-1.4 mm vs 8.9+/-0.7 mm, P<0.05, respectively). Short-term beat-to-beat QT variability was elevated in patients with acromegaly in spite of unchanged conventional parameters of ventricular repolarization. This enhanced temporal QT variability may be an early indicator of increased liability to arrhythmia