Term Structure of Interest Rates with Regime Shifts

58 Pages Posted: 14 Dec 2001

See all articles by Hao Zhou

Hao Zhou

Tsinghua University - PBC School of Finance

Ravi Bansal

Duke University and NBER

Multiple version iconThere are 2 versions of this paper

Date Written: November 2001

Abstract

We develop a term structure model where the short interest rate and the market price of risks are subject to discrete regime shifts. Empirical evidence from Efficient Method of Moments estimation provides considerable support for the regime shifts model. Standard models, which include affine specifications with up to three factors, are sharply rejected in the data. Our diagnostics show that only the regime shifts model can account for the well documented violations of the expectations hypothesis, the observed conditional volatility, and the conditional correlation across yields. We find that regimes are intimately related to business cycles.

Keywords: Regime switching, term structure of interest rate, reprojection, efficient method of moments

JEL Classification: E43, G12, C51, C52

Suggested Citation

Zhou, Hao and Bansal, Ravi, Term Structure of Interest Rates with Regime Shifts (November 2001). Board of Governors of the Federal Reserve System-FEDS 2001-46, Available at SSRN: https://ssrn.com/abstract=293680 or http://dx.doi.org/10.2139/ssrn.293680

Hao Zhou (Contact Author)

Tsinghua University - PBC School of Finance ( email )

No. 43, Chengfu Road
Haidian District
Beijing, 100083
China
86-10-62790655 (Phone)

Ravi Bansal

Duke University and NBER ( email )

Box 90120
Durham, NC 27708-0120
United States
919-660-7758 (Phone)
919-660-8038 (Fax)

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