Forecasting economic activity from yield curve factors |
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| Affiliation: | 1. Department of Finance, National Sun Yat-sen University, Kaohsiung, Taiwan;2. School of Business Administration, Southwestern University of Finance and Economics, Sichuan, China;1. University of Iceland, 101 Reykjavík, Iceland;2. University of Iceland, Iceland;3. Birkbeck College, London, United Kingdom;1. Institute of Financial Analysis, University of Neuchâtel, Rue A.-L. Breguet 2, Neuchâtel, Switzerland;2. Département de finance, assurance et immobilier, Université Laval, Québec, Canada;3. Solvay Business School, Vrije Universiteit Brussel, Pleinlaan 2, 1050 Brussel, Belgium;4. Faculty of Economics and Business, VU University Amsterdam, The Netherlands;5. KU Leuven, Campus Carolus Antwerpen, Faculty of Economics and Business, Korte Nieuwstraat 33, 2000 Antwerpen, Belgium |
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| Abstract: | This paper provides clear-cut evidence that the slope and curvature factors of the term structure of interest rates (yield curve) contain more information about future changes in economic activity than the term spread itself, often used in the literature as a predictive regressor of economic activity. These two factors reflect different information about future economic activity, which is smoothed out by the term spread. The paper shows that the slope factor has predictive power on future economic activity over longer horizons ahead, and thus may be interpreted as reflecting future business cycle conditions. On the other hand, the curvature factor, which enters the term spread with opposite sign than the slope factor, has predictive power on shorter movements of future economic activity which may be associated with changes in the current stance of monetary policy. These results hold for a number of world developed economies. |
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| Keywords: | Forecasting economic activity Yield curve factors Nelson–Siegel term structure models Kalman filter |
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