A Model of the Euro-Area Yield-Curve with Discrete Policy Rates
49 Pages Posted: 4 Mar 2012 Last revised: 31 Aug 2014
Date Written: August 30, 2014
This paper presents a no-arbitrage yield-curve model that explicitly incorporates the central-bank policy rate. The model, whose estimation is based on daily euro-area data, provides evidence of the existence of sizeable monetary-policy-related risk premiums in the yield curve. It is further used to simulate forward-guidance measures. The results suggest that a credible commitment of the central bank to keep its policy rate unchanged for a given period of time can result in substantial declines in yields: a commitment to keep the policy rate at 1% over the next 2 years would imply a decline in the 5-year rate of about 25 basis points.
Keywords: affine term-structure models, zero lower bound, regime switching, forward policy guidance
JEL Classification: E43, E44, E47, E52, G12
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