Level-Arch Short Rate Models with Regime Switching: Bivariate Modeling of Us and European Short Rates

CREATES Research Paper 2007-5

53 Pages Posted: 18 Apr 2005

Date Written: May 5, 2007

Abstract

This paper introduces regime switching into level-ARCH models for the short rates of the US, the UK, and Germany. Once regime switching and level effects are included there are no gains from including ARCH effects. It is of secondary importance how the regime switching is specified. The estimated level parameters differ across countries. The corresponding new bivariate models show that the states of the US and UK short rate volatilities are not independent nor identical. There is Granger causality from the US to the UK short rate volatility state but not vice versa. There is no contagion between the US and UK volatility states. Equivalent results apply to the relation between the US and German volatility states.

Keywords: Bivariate short-rate model, International short rates, Level-ARCH model, Regime Switching

JEL Classification: G12, G15, E43, C32

Suggested Citation

Christiansen, Charlotte, Level-Arch Short Rate Models with Regime Switching: Bivariate Modeling of Us and European Short Rates (May 5, 2007). CREATES Research Paper 2007-5, Available at SSRN: https://ssrn.com/abstract=700624 or http://dx.doi.org/10.2139/ssrn.700624

Charlotte Christiansen (Contact Author)

Aarhus University - CREATES ( email )

Fuglesangs Alle 4
Aarhus V, DK 8210
Denmark

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