Information in Financial Market Indicators An Overview

This paper gives an overview on how interest rate instruments such as government bonds can be used to assess financial market expectations.

Assessing the Role of Income and Interest Rates in Determining House Prices

Property prices across many OECD countries have witnessed remarkable increases over the past 10 years. Two factors frequently posited for this boom are higher income levels and the benign interest rate environment experienced in many of these countries. However, empirical models of house prices struggle to achieve credible results concerning the impact of interest rates with coefficients that are frequently insignificant or of the wrong sign. In this paper we propose an intuitive theoretical model of house prices where the demand for housing is driven by how much individuals can borrow from financial institutions. This level of borrowing depends on disposable income levels and current interest rates. We empirically test this model by applying it to the Irish property market. Our results support the existence of a long-run relationship between actual house prices and the amount individuals can borrow with plausible and statistically significant adjustment to this long run equilibrium.

Testing Parameter Stability: A Wild Bootstrap Approach

Unknown-breakpoint tests for possible structural change have become standard in recent years, with the most popular being the so-called Sup-F tests, whose asymptotic distribution was derived by Andrews (1993). We highlight two problems that lead to poor performance when testing for structural breaks in dynamic time series models using the Andrews critical values: High persistence of explanatory variables and heteroskedasticity. We propose a so-called ``wild bootstrap'' approach to generating critical values for the Sup-F statistic and report that this approach performs well across a wide variety of possible data generating processes, including those with large coefficients on lagged dependent variables and heteroskedasticity.

Has euro-area inflation persistence changed over time?

This paper analyzes the stability over time of the econometric process for Euro-area inflation since 1970, focusing in particular on the behaviour of the so-called persistence parameter (the sum of the coefficients on the lagged dependent variables). Perhaps surprisingly, in light of the Lucas critique, our principal finding is that there appears to be relatively little instability in the parameters of the Euro-area inflation process. Full-sample estimates of the persistence parameter are generally close to one, and we fail to reject the hypothesis that this parameter has been stable over time. We discuss how these results provide some indirect evidence against rational expectations models with strong forward-looking elements, such as the New-Keynesian Phillips curve. JEL Classification: E31, E52euro area, Inflation persistence, Lucas Critique

Has Euro-Area Inflation Persistence Changed Over Time?

This paper analyzes the stability over time of the econometric process for Euro-area inflation since 1970, focusing in particular on the behaviour of the so-called persistence parameter (the sum of the coefficients on the lagged dependent variables). Perhaps surprisingly, in light of the Lucas critique, our principal finding is that there appears to be relatively little instability in the parameters of the Euro-area inflation process. Full-sample estimates of the persistence parameter are generally close to one, and we fail to reject the hypothesis that this parameter has been stable over time. We discuss how these results provide some indirect evidence against rational expectations models with strong forward-looking elements, such as the New-Keynesian Phillips curve.

The Influence of Domestic and International Interest Rates on the ISEQ

We investigate the influence of international and domestic monetary policy shocks on the Irish stock market. Specifically, we analyse the impact of (un)expected changes in domestic, US, UK and German / euro area policy rates on the ISEQ between 1988 to 2002 in an event type study. Our decomposition of (un)expected changes in policy rates are based on futures markets and is akin to Kuttner (2001). In the absence of an Irish interest rate futures market, we use a more indirect method by appealing to the expectations theory of the term structure of interest rates. Overall, our results suggest that, with the exception of the US, unanticipated changes in domestic and international interest rates appear to have little significant influence on the Irish stock market.

International Policy Rate Changes and Dublin Interbank Offer Rates

We investigate the influence of international interest rate changes on the Dublin inter bank money market rates (Dibor). Specifically, we analyse the impact of (un)expected changes in German (Euro) area and US policy rates on various Dibor rates between 1991 to 2002 in an event type study. Our decomposition of (un)expected changes of policy rates are based on future markets and is akin to Kuttner (2000). Overall, our results suggest that Dibor rates respond positively and significantly to unanticipated Euro and US policy rate changes while expected changes have an insignificant impact

Retail Interest Rate Pass-Through: The Irish Experience

Most central banks use a short-term interest rate such as the one-month money market interest rate as their main instrument of monetary policy. Changes to this short-term interest rate are the first important step in the transmission of monetary policy. Consumption and investment decisions made by households and firms will be affected by the rate of interest rate charged to them by banks and other financial intermediaries. A critical element of the transmission of monetary policy is the degree and speed at which changes in the short-term policy rate are transmitted to retail rates faced by firms and households. The term pass through refers to the extent to which changes in money market rates are reflected in changes in retail rates. This paper aims at increasing our understanding of this particular aspect of the monetary transmission mechanism in an Irish context between 1980 and 2001. In particular, we seek to answer two questions. 1) To what extent are changes in the one-month money-market rate passed through to various retail lending rates? 2) What is the speed at which changes in this money market rate transmitted to these lending rates? Understanding this process is important since it will determine in part how sensitive the domestic economy is to monetary policy changes as well as determining the speed at which the real economy responds to such policy rate changes. One of our main findings is that pass through from the money market rates to retail lending rates is not complete. In other words, lending rates respond less than one for one to changes in money market rates. For example, a one per cent change in the money market rate results in less than 0.8 of one per cent pass through to mortgage rates. Our results for the speed of adjustment are consistent with those of previous international studies. A significant part of our analysis is that we document the effect of a number of the more substantial developments in the financial environment over the sample period, namely, the institutional arrangements regarding the setting of retail rates, changes in competition and regulatory regimes in financial markets and changes in the conduct and operation of monetary policy. We find that such structural change has had a significant effect on the relationship between the money market rate and the various lending rates both in terms of pass through and speed of adjustment during this period. For example, we find that the dismantling of so called ‘matrix’ (an agreement on the setttng of various retail rates between the Central Bank and the Associated Banks) led to an increase in the degree of pass through between the money market rate and all lending rates considered. Failure to account for such change will lead to biased estimates of both the degree of and speed of pass through from money market rates to lending rates.

European Monetary Policy Surprises: The Aggregate and Sectoral Stock Market Response

In this paper we investigate the stock market response to international monetary policy changes in the UK and Germany. Specifically, we analyse the impact of (un)expected changes in UK and German/euro area policy rates on UK and German aggregate and sectoral stock returns in an event study. The decomposition of the (un)expected changes in policy rates are based on futures markets. Overall, our results suggest that, UK monetary policy surprises have a significant negative influence on both aggregate and industry level stock returns in both the UK and Germany. The influence of German/Euro area monetary policy shocks appears insignificant for both countries.