Economic Sentiment and Yield Spreads in Europe |
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| Authors: | Eva Ferreira M Isabel Martínez Serna Eliseo Navarro Gonzalo Rubio |
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| Institution: | 1. Universidad del País Vasco, Departamento de Economía Aplicada III, Facultad de Ciencias Económicas y Empresariales de Bilbao, Avda. Lehendakari Aguirre, 83, E‐48015 Bilbao, Spain E‐mail: etpfegae@bs.ehu.es;2. Universidad de Murcia, Departamento de Organización de Empresas y Finanzas, Facultad de Economía y Empresa, Campus de Espinardo, 30100 Murcia, Spain E‐mail: marisams@um.es;3. Universidad de Castilla‐La Mancha, Departamento de Análisis Económico y Finanzas, Facultad de Ciencias Económicas y Empresariales de Albacete, Plaza Universidad, 1, 02071 Albacete, Spain E‐mail: eliseo.navarro@uclm.es;4. Universidad del País Vasco, Departamento de Fundamentos del Análisis Económico II, Facultad de Ciencias Económicas y Empresariales, Avda, Lehendakari Aguirre 83, 48105 Bilbao, Spain E‐mail: gonzalo.rubio@ehu.es |
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| Abstract: | According to Harvey (1988) , the forecasting ability of the term spread on economic growth is due to the fact that interest rates reflect investors' expectations about the future economic situation when deciding their plans for consumption and investment. Past literature has used ex post data on output or consumption growth as proxies for their expected value. In this paper, we employ a direct measure of economic agents' expectations, the Economic Sentiment Indicator elaborated by the European Commission, to test this hypothesis. Our results indicate that a linear combination of European yield spreads explains a surprising 93.7\% of the variability of the Economic Sentiment Indicator. This ability of yield spreads to capture economic agent expectations may be the actual reason for the predictive power of yield spreads about future business cycle. |
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| Keywords: | Economic Sentiment Indicator term structure of interest rates yield spreads principal components expected economic growth G12 E43 |
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