Structural breaks, parameter uncertainty, and term structure puzzles

We show that uncertainty about parameters of the short rate model can account for the rejections of the expectations hypothesis for the term structure of interest rates. We assume that agents employ Bayes rule to learn parameter values in the context of a model that is subject to stochastic structur...

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Bibliographic Details
Published inJournal of financial economics Vol. 102; no. 1; pp. 222 - 232
Main Authors Bulkley, George, Giordani, Paolo
Format Journal Article
LanguageEnglish
Published Amsterdam Elsevier B.V 01.10.2011
Elsevier
Elsevier Sequoia S.A
SeriesJournal of Financial Economics
Subjects
Bayesian method
Change-point
Change-point Learning Expectations hypothesis
Economic models
Erwartungsbildung
Expectation
Expectations
Expectations hypothesis
Hypotheses
Hypothesis
Interest rates
Learning
Mathematical economics
Studies
Uncertainty
Zinsstruktur
Learning
G12
Change-point
Expectations hypothesis
G17
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Summary:We show that uncertainty about parameters of the short rate model can account for the rejections of the expectations hypothesis for the term structure of interest rates. We assume that agents employ Bayes rule to learn parameter values in the context of a model that is subject to stochastic structural breaks. We show that parameter uncertainty also implies that the verdict on the expectations hypothesis varies systematically with the term of the long bond and the particular test employed, in the same way that is found in empirical tests.
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ISSN:0304-405X
1879-2774
DOI:10.1016/j.jfineco.2011.05.009