Testing for asymmetry in the link between the yield spread and output in the G-7 countries

Abstract

The dierence in yields between long-term and short-term securities has been used both as a business cycle leading indicator and a s a n i n d icator of the current i m pact of monetary policy. This paper tests for an asymmetry, i n the form of a threshold eect, such that the impact of the yield spread on output i s g r eat e r o n o n e s i de of the threshold than the other. The test allows for an unknown threshold, a n d t h e a s ymptotic distribution of the resulting s tatistic is obtained by the method of Hansen (1996). We test using data from each of the G-7 countries, and nd that, while the yield spread does generally show a s ignicant link with output, only in the U.S. and Canada is there strong evidence of an asymmetry of this t ype. The evidence of asymmetry that we nd suggests a high value of the threshold in both the U.S. a n d C anada.

Changes in predictive ability with mixed frequency data

“…Previous applications of non-linear time series models for verifying changes in the dynamic relationship between output growth and the spread (Galbraith and Tkacz, 2000;Anderson and Vahid, 2001;Galvão, 2006) have specified models only for one-step-ahead forecasts.…”

Structural break threshold VARs for predicting US recessions using the spread

“…The inclusion of nonlinearities improves the accuracy of predicting the probability of recession (Anderson and Vahid, 2001), while large spreads do not predict strong growth (Galbraith and Tkacz, 2000).…”

Asymmetry in the link between the yield spread and industrial production: threshold effects and forecasting

“…Over the past few years researchers have discovered that differentials between long-term and shortterm nominal interest rates (term spread) have exhibited a systematic correlation with movements in future economic activity in a number of countries and for a number of different time periods in the post-war period (see, e.g., Stock and Watson, 1989;Estrella and Hardouvelis, 1991;Plosser and Rouwenhorst, 1994;Estrella and Mishkin, 1997;Dotsey, 1998 andGalbraith andTkacz, 2000).…”

“…Galbraith and Tkacz (2000) report empirical evidence that is suggestive that the empirical relationship between the spread and aggregate output change may be nonlinear as the theoretical work suggests. They test for asymmetry in the predictive content of the spread in the form of a threshold effect.…”