Explaining the US Bond Yield Conundrum

We analyze if and to what extent fundamental macroeconomic factors, temporary influencesor more structural factors have contributed to the low levels of US bond yields over the lastfew years. For that purpose, we start with a general model of interest rate determination. Theempirical part consists of a cointegration analysis with an error correction mechanism. We areable to establish a stable long-run relationship and find that the behavior of bond yields, evenduring the last two years, can well be explained. Alongside the more traditionalmacroeconomic determinants like core inflation, monetary policy and the business cycle, wealso include foreign holdings of US Treasuries. The latter should capture the frequentlymentioned structural effects on long-term interest rates. Finally, our bond yield equationoutperforms a random walk model in different forecasting exercises.