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Evolving macroeconomic perceptions and the term structure of interest rates

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  • Orphanides, Athanasios
  • Wei, Min
Abstract
We explore the role of evolving beliefs regarding the structure of the macroeconomy in improving our understanding of the term structure of interest rates within the context of a simple macro-finance model. Using quarterly vintages of real-time data and survey forecasts for the United States over the past 40 years, we show that a recursively estimated VAR on real GDP growth, inflation and the nominal short-term interest rate generates predictions that are more consistent with survey forecasts than a benchmark fixed-coefficient counterpart. We then estimate a simple term structure model under the assumption that investor risk attitude is driven by near-term expectations of the three state variables. When we allow for evolving beliefs about the macroeconomy, the resulting term structure model provides a better fit to the cross section of yields than the benchmark model, especially at longer maturities, and exhibits better performance in out-of-sample predictions of future yield movements.

Suggested Citation

  • Orphanides, Athanasios & Wei, Min, 2012. "Evolving macroeconomic perceptions and the term structure of interest rates," Journal of Economic Dynamics and Control, Elsevier, vol. 36(2), pages 239-254.
    • Handle: RePEc:eee:dyncon:v:36:y:2012:i:2:p:239-254
    DOI: 10.1016/j.jedc.2011.08.011
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    More about this item

    Keywords

    Macro term structure model; Adaptive learning; Recursive least squares; Real-time data; Survey forecasts; Anticipated utility; SPF; Blue chip economic indicators;
    All these keywords.

    JEL classification:

    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • E47 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Forecasting and Simulation: Models and Applications
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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