International Yield Co-movements
101 Pages Posted: 19 Jun 2019 Last revised: 21 Oct 2020
Date Written: August 27, 2020
We decompose 5 year nominal bond yields into real and inflation components in an international context using inflation-linked and nominal bonds. Real rate variation dominates the variation in inflation-linked and nominal yields, but liquidity and inflation risk premiums are also important. Cross-country nominal and inflation-linked yield correlations have declined since the Great Recession. Real rates are the main source of the correlation between nominal yields. A slow-moving risk aversion variable from a habit model explains a substantive part of the variation in real yields and cross-country yield correlations, but a measure of the monetary policy stance improves the model fit.
Keywords: sovereign bonds, cross-country co-movement, real yield, expected inflation, inflation risk premium, liquidity premium, habit formation, inflation-linked bonds
JEL Classification: E31, E43, G12, G15
Suggested Citation: Suggested Citation