Dynamics of the Term Structure of UK Interest Rates

37 Pages Posted: 19 Apr 2010

See all articles by Francesco Bianchi

Francesco Bianchi

Duke University

Haroon Mumtaz

University of London - School of Sciences

Paolo Surico

London Business School - Department of Economics; Centre for Economic Policy Research (CEPR)

Multiple version iconThere are 2 versions of this paper

Date Written: March 1, 2009

Abstract

This paper models the evolution of monetary policy, the term structure of interest rates and the UK economy across policy regimes. We model the interaction between the macroeconomy and the term structure using a time-varying VAR model augmented with the factors from the yield curve. Our results suggest that the level, slope and curvature factors display substantial time variation, with the level factor moving closely with measures of inflation expectations. Our estimates indicate a large decline in the volatility of both yield curve and macroeconomic variables around 1992, when the United Kingdom first adopted an inflation-targeting regime. During the inflation-targeting regime, monetary policy shocks have been more muted and inflation expectations have been lower than in the pre-1992 era. The link between the macroeconomy and the yield curve has also changed over time, with fluctuations in the level factor becoming less important for inflation after the Bank of England independence in 1997. Policy rates appear to have responded more systematically to inflation and unemployment in the current regime. We use our time-varying macro-finance model to revisit the evidence on the expectations hypothesis.

Keywords: Term structure, time-varying VAR, Bayesian estimation

JEL Classification: E50, E58

Suggested Citation

Bianchi, Francesco and Mumtaz, Haroon and Surico, Paolo, Dynamics of the Term Structure of UK Interest Rates (March 1, 2009). Economics Research Initiatives at Duke (ERID) Working Paper No. 39. Available at SSRN: https://ssrn.com/abstract=1592535 or http://dx.doi.org/10.2139/ssrn.1592535

Francesco Bianchi (Contact Author)

Duke University ( email )

100 Fuqua Drive
Durham, NC 27708-0204
United States

Haroon Mumtaz

University of London - School of Sciences ( email )

London, WC1E 7HX
United Kingdom

Paolo Surico

London Business School - Department of Economics ( email )

Sussex Place
Regent's Park
London NW1 4SA
United Kingdom

HOME PAGE: http://sites.google.com/site/paolosurico

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

HOME PAGE: http://sites.google.com/site/paolosurico

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