Decomposing real and nominal yield curves

Inflation-indexed and nominal yield curves capture investors׳ expectations of real short rates and inflation as well as their required compensation for bearing liquidity, inflation, and real interest rate risk. We estimate an affine term structure model that allows us to decompose real and nominal b...

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Bibliographic Details
Published inJournal of monetary economics Vol. 84; pp. 182 - 200
Main Authors Abrahams, Michael, Adrian, Tobias, Crump, Richard K., Moench, Emanuel, Yu, Rui
Format Journal Article
LanguageEnglish
Published Elsevier B.V 01.12.2016
Subjects
Affine term-structure model
Expected inflation
Inflation risk premium
Liquidity risk
TIPS breakevens
Affine term-structure model
Expected inflation
Inflation risk premium
Liquidity risk
TIPS breakevens
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Summary:Inflation-indexed and nominal yield curves capture investors׳ expectations of real short rates and inflation as well as their required compensation for bearing liquidity, inflation, and real interest rate risk. We estimate an affine term structure model that allows us to decompose real and nominal bond yields into these components and use the model to study the transmission of monetary policy. The model decompositions imply that the Federal Reserve׳s announcements of LSAPs lowered yields primarily by reducing real term premia. Changes in real term premia also account for the strong response of long-term real forward rates to federal funds rate surprises. •A term structure model for nominal and inflation-indexed government bonds.•Model is used to decompose yields into expectations and risk premia.•Variations in nominal term premia are primarily due to movements in real term premia.•LSAP announcements lowered yields mainly through a reduction of real term premia.•Monetary policy surprises primarily affect real forwards through real term premia.
ISSN:0304-3932
1873-1295
DOI:10.1016/j.jmoneco.2016.10.006