Forecasting Long-Term Interest Rates with a Dynamic General Equilibrium Model of the Euro Area: The Role of the Feedback

This paper studies the forecasting performance of the general equilibrium model of bond yields of Marzo, Söderström and Zagaglia (2008), where long-term interest rates are an integral part of the monetary transmission mechanism. The model is estimated with Bayesian methods on Euro area data. I compare the out-of-sample predictive performance of the model against a variety of competing specifications, including that of De Graeve, Emiris and Wouters (2009). Forecast accuracy is evaluated through both univariate and multivariate measures. I also control the statistical significance of the forecast differences using the tests of Diebold and Mariano (1995), Hansen (2005) and White (1980). I show that taking into account the impact of the term structure of interest rates on the macroeconomy generates superior out-of-sample forecasts for both real variables, such as output, and inflation, and for bond yields.Yield curve, general equilibrium models, Bayesian estimation, forecasting

How reliable are Taylor rules? A view from asymmetry in the U.S. Fed funds rate

This note raises the issue of whether asymmetry in estimated monetary-policy rules for the U.S. can be a spurious result due to model specification, rather than a robust feature of the estimated rules themselves. I estimate standard - linear - Taylor rules, and test for conditional symmetry using the procedures presented in Bai and Ng (2001a). The results cast doubt on Taylor rules providing a consistent description of the conduct of the Fed.conditional symmetry

The Sources of Volatility Transmission in the Euro Area Money Market: From Longer Maturities to the Overnight?

This note investigates the transmission of volatility from longer maturities to the overnight segment of the Euro area money market. I use non-parametric estimates of the daily variance of swap rates to test for block exogeneity with respect to the overnight. The results suggest that there exists transmission of volatility shocks from the 1-year swap rate to the overnight market. The reform of the operational framework of March 2004 has improved the segmentation of the market, as it has insulated the overnight segment from spillovers in volatility stemming from swap rates up to 6 months of maturity.Money Market; High-Frequency Data; Granger Causality

Money-Market Segmentation in the Euro Area: What has Changed During the Turmoil?

I study how the pattern of segmentation in the Euro area money market has been affected by the recent turmoil in financial markets. I use nonparametric estimates of realized volatility to test for volatility spillovers between rates at different maturities. For the pre-turmoil period, exogeneity tests from VAR models suggest the presence of a transmission channel from longer maturities to the overnight. This disappears in the subsample starting in August 9 2007. Quantile measures of comovements in volatility report evidence of an increase in contagion within the longer end of the money market curve.Money market; high-frequency data; time-series methods

Monetary Asset Substitution in the Euro Area

I estimate time-varying elasticities of substitution between monetary assets for the Euro area using the semi-nonparametric method of Gallant (1981). The estimated elasticities suggest are consistent with the assumption of imperfect substitution between asset. Furthermore, the elasticities provide little evidence for the presence of structural breaks in money demand in the period 2001-2003 suggested by the ECB (2003).money demand, asset substitution, nonparametric methods

Forecasting with a DSGE Model of the term Structure of Interest Rates: The Role of the Feedback

This paper studies the forecasting performance of the general equilibrium model of bond yields of Marzo, Söderström and Zagaglia (2008), where long-term interest rates are an integral part of the monetary transmission mechanism. The model is estimated with Bayesian methods on Euro area data. I investigate the out-of-sample predictive performance across different model specifications, including that of De Graeve, Emiris and Wouters (2009). The accuracy of point forecasts is evaluated through both univariate and multivariate accuracy measures. I show that taking into account the impact of the term structure of interest rates on the macroeconomy generates superior out-of-sample forecasts for both real variables, such as output, and inflation, and for bond yields.Monetary policy; yield curve; general equilibrium; bayesian estimation

Does the Yield Spread Predict the Output Gap in the U.S.?

Yes, but only at short horizons from 1 to 3 quarters over the full post-World War II sample. The predictive relation between the yield spread and the output gap is characterized by parameter instability. Differently from the predictive models of the yield spread for output growth, structural instability is not due to a loss of predictive ability after 1985. Rather, the predictive relation estimated on post-1985 data holds for a range of horizons larger than for pre-1985 data. I also show that the information on current monetary policy is statistically irrelevant for the prediction of the output gap over the post-1985 subsample.output gap; yield spread; predictability

Money-market segmentation in the Euro area: what has changed during the turmoil?

In this paper we study how the pattern of segmentation in the euro area money market has been affected by the recent turmoil in financial markets. We use nonparametric estimates of realized volatility to test for volatility spillovers between rates at different maturities. For the pre-turmoil period, exogeneity tests from VAR models suggest the presence of a transmission channel from longer maturities to the overnight. This disappears in the subsample starting in August 9 2007. The results of the semiparametric tests of Cappiello, Gerard and Manganelli (2005) report evidence of an increase in volatility contagion within the longer end of the money market curve. However this takes place in the lower tail of the empirical distributions.In this paper we study how the pattern of segmentation in the euro area money market has been affected by the recent turmoil in financial markets. We use nonparametric estimates of realized volatility to test for volatility spillovers between rates at different maturities. For the pre-turmoil period, exogeneity tests from VAR models suggest the presence of a transmission channel from longer maturities to the overnight. This disappears in the subsample starting in August 9 2007. The results of the semiparametric tests of Cappiello, Gerard and Manganelli (2005) report evidence of an increase in volatility contagion within the longer end of the money market curve. However this takes place in the lower tail of the empirical distributions.money market; high-frequency data; time-series methods

Macroeconomic Factors and Oil Futures Prices: A Data-Rich Model

I study the dynamics of oil futures prices in the NYMEX using a large panel dataset that includes global macroeconomic indicators, financial market indices, quantities and prices of energy products. I extract common factors from these series and estimate a Factor-Augmented Vector Autoregression for the maturity structure of oil futures prices. I find that latent factors generate information that, once combined with that of the yields, improves the forecasting performance for oil prices. Furthermore, I show that a factor correlated to purely financial developments contributes to the model performance, in addition to factors related to energy quantities and prices.Crude Oil; Futures Markets; Factor Models

On (Sub) Optimal Monetary Policy Rules under Untied Fiscal Hands

We examine the interplay between monetary and fiscal policies in a context where disturbances to the public deficit process are a primary source of macroeconomic instability. We perform simulations of optimal targeting rules on a sticky-price model `a la Woodford (1997). Our investigation compares the dynamic adjustment path under inflation targeting with that arising from nominal income growth targeting. When fiscal shocks enter the picture, inflation targeting is a superior strategy. In opposition to Jensen (2002)’s results, we show that an inflation targeter is capable of bringing about the required degree of interest rate inertia. This does not occur at the cost of additional nominal instability.interest rate smoothing; monetary policy rules; fiscal shocks