Working Paper: CEPR ID: DP3225
Authors: Lucio Sarno; Daniel L. Thornton
Abstract: This article examines the dynamic relationship between two key US money market interest rates ? the federal funds rate and the 3-month Treasury bill rate. Using daily data over the period from 1974-99, we find a long-run relationship between these two rates that is remarkably stable across monetary policy regimes of interest rate and monetary aggregate targeting. Employing a non-linear asymmetric vector equilibrium correction model, which is novel in this context, we find that most of the adjustment toward the long run equilibrium occurs through the federal funds rate. In turn, there is strong evidence for the existence of significant asymmetries and non-linearities in interest rate dynamics that have implications for the conventional view of interest rate behaviour.
Keywords: equilibrium correction; interest rates; nonlinear dynamics; term structure
JEL Codes: E43
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| federal funds rate (E52) | Treasury bill rate (E43) |