A Reconciliation of Some Paradoxical Empirical Results on the Expectations Model of the Term Structure.

In this paper, the authors attempt to reconcile contradictory empirical results for the expectations model of the term structure which are found when it is tested by a variety of methods based on single-equation and vector autoregression (VAR) models. Using monthly data for one-month and three-month interest rates, the authors show that the expectations hypothesis is rejected for the United States and United Kingdom term structures on the basis of some popular tests. However, tests based on VAR models or on instrumental variables regressions of yield spreads on future short rate changes provide no evidence against the expectations model with a random component in the term premium. Copyright 1997 by Blackwell Publishing Ltd