Fractional cointegration and the term structure

Abstract

According to the expectations theory of the term structure of interest rates, the yield spread between long-term and short-term interest rates is an optimal predictor of future changes in short rates over the long-run. Results concerning the empirical validity of this hypothesis are not unanimous. These contradictions may be due to the fact that the traditional concept of cointegration is too restrictive. We refer here to the concept of fractional cointegration introduced by Granger (1986). We study the expectations theory by testing for the existence of a (fractional) cointegration relationship between short-term and long-term interest rates. There is evidence of fractional cointegration between interest rates for the G7 countries, with the exception of Germany. Copyright Springer-Verlag 2004Interest rates, term structure, fractional cointegration, C22, E43,

Expected Inflation and Other Determinants of Treasury Yields

“…This choice is consistent with results in the applied cointegration literature, which typically produces a double negative: we cannot reject the hypothesis that inflation and nominal yields are both nonstationary and not cointegrated. Examples include Lardic and Mignon () and Hjalmarsson and Österholm (). In their critical review of the literature, Neely and Rapach (, p. 609–610) conclude that “… studies [of real rates] often report evidence of unit roots, or—at a minimum—substantial persistence.”…”

Testing the expectations hypothesis when interest rates are near integrated

“…Intuitively, if interest rates are integrated of order one, the expectations hypothesis implies that the spread between any pair of yields is stationary. Following Engle and Granger's early work, several studies have taken a similar path and have found only mixed evidence for the expectations hypothesis; see, for example, Campbell and Shiller (1987), Boothe (1991), Hall et al (1992), Zhang (1993) and Lardic and Mignon (2004).…”

Testing the Expectations Hypothesis when Interest Rates are Near Integrated

“…Intuitively, if interest rates are integrated of order one, the expectations hypothesis implies that the spread between any pair of yields is stationary. Following Engle and Granger's early work, several studies have taken a similar path and have found only mixed evidence for the expectations hypothesis; see, for example, Campbell and Shiller (1987), Boothe (1991), Hall et al (1992), Zhang (1993) and Lardic and Mignon (2004).…”