DP4835 The Role of Asymmetries and Regime Shifts in the Term Structure of Interest Rates

Author(s): Richard Clarida , Lucio Sarno , Mark P Taylor , Giorgio Valente

Publication Date: January 2005

Keyword(s): term structure of interest rates , markov switching , forecasting

JEL(s): E43 , E47

Programme Areas: International Macroeconomics

Link to this Page: www.cepr.org/pubs/dps/DP4835.asp

We examine the relationship between interest rates of different maturities for the US, Germany and Japan over the period 1982-2000, using a general, multivariate vector equilibrium correction modelling framework capable of simultaneously allowing for asymmetric adjustment and regime shifts. This approach has a very general underlying theoretical rationale that allows for time-varying term premia and other short-run deviations from the expectations model of the term structure. The resulting non-linear models provide good in-sample fits, display regime switches closely related to key state variables driving monetary policy decisions and have satisfactory out-of-sample forecasting properties.