Working Paper: NBER ID: w13448
Authors: Andrew Ang; Sen Dong; Monika Piazzesi
Abstract: We estimate Taylor (1993) rules and identify monetary policy shocks using no-arbitrage pricing techniques. Long-term interest rates are risk-adjusted expected values of future short rates and thus provide strong over-identifying restrictions about the policy rule used by the Federal Reserve. The no-arbitrage framework also accommodates backward-looking and forward-looking Taylor rules. We find that inflation and output gap account for over half of the variation of time-varying excess bond returns and most of the movements in the term spread. Taylor rules estimated with no-arbitrage restrictions differ from Taylor rules estimated by OLS, and the resulting monetary policy shocks are somewhat less volatile than their OLS counterparts.
Keywords: Monetary Policy; Taylor Rules; No-Arbitrage Pricing
JEL Codes: E43; E44; E52; G12
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Monetary policy shocks (E39) | Inflation (E31) |
| Monetary policy shocks (E39) | Output gap (E23) |
| Inflation (E31) | Excess bond returns (G12) |
| Output gap (E23) | Excess bond returns (G12) |
| Monetary policy shocks (E39) | Term spread (E43) |
| Monetary actions of the Federal Reserve (E52) | Long-term interest rates (E43) |
| Macroeconomic factors (E66) | Expected excess returns on bonds (G12) |
| Risk premia associated with macro factors (E71) | Expected excess returns on bonds (G12) |