Joint Dynamics of the U.S. Treasury Maturity Rates : Policy Implications for Central Banks

This paper examines whether there is a direct relationship between yields of differing maturities for the U.S. Treasury market. The hypothesis that long horizon rates may help to predict future short horizon rates, in addition to short horizon rates helping to predict future long horizon rates, provides the motivation for the present study. The proposed inter-relationship between the different interest rates exhibits important implications for central bank policy-making. Employing a multivariate time-series analysis, we find that spreads in the short-term rate tend to rise (fall) in response to rises in prior short-term (long-term) rate spreads. Additionally, spreads in the long term rates tend to decrease in response to prior rises in the 1 year Treasury rate spread. Finally, positive impulse responses for long term spreads largely derive from shocks to shorter term maturity spreads, while shocks to longer term maturity rates result in gradual negative impulse responses for maturity rates of shorter horizons. In sum, this paper provides evidence of important feedback relationships across the maturity spectrum in the U.S. Treasury market. An understanding of the maturity rate dynamics is crucial for future central bank interventions and for the pricing of options and other related financial instruments