Bond yields and debt supply: new evidence through the lens of a preferred-habitat model |
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Authors: | Till Strohsal |
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Institution: | 1. Department of Economics, Freie Universit?t Berlin, Berlin, Germany.till.strohsal@fu-berlin.de |
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Abstract: | This paper examines the responsiveness of bond yields to changes in debt supply. The preferred-habitat theory predicts a positive relation between the term spread and relative supply of longer term debt, and that this relation is stronger when risk aversion is high. To capture this effect, a time-varying coefficient model is introduced and applied to German bond data. The results support the theoretical predictions and indicate substantial time variation: under high risk aversion, yield spreads react about three times more strongly than when risk aversion is low. The accumulated response of term spreads to a one standard deviation change in debt supply ranges between 4 and 46 basis points. |
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Keywords: | Preferred-habitat Time-varying risk aversion Yield spreads Bond supply |
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