The Predictive Power of the Yield

The purpose of this study is to determine if the information contained in theSouth African Yield Curve – being a profile of debt bearing instruments withdifferent maturities – is a predictor of the South African Gross Domestic Product.The report is limited to the period following the 1994 democratic elections as thisevent signified a major shift in economic policy.The Term Spread – being the difference in yield between a short terminstrument and a long term instrument – had been shown in a number of studiesto be a significant predictor of inflation, economic activity and recessions. Mostof these studies were carried out on first world economies. Literature showedthat the addition of a stock market index and the level of the yield curve (theshort term interest rate) to the model increased its performance.The numeric data – the GDP, Yields on T-Bills and RSA Government Bonds andthe All-Share Index – used to complete this study is readily available fromreputable institutions.This work shows that the Term Spread has weak predictive ability over thechange in the South African GDP in the near term – up to two quarters ahead.The all-share index contains negligible additional information. When the 91 dayT-Bill Rate (the short term rate) is added to the model, the predictive abilityincreases tremendously, both in terms of the explanatory power and theforecasting horizon – to the point where the contribution of the term spread canbe considered non-significant.It is not clear why the T-Bill rate shows strong predictive power relative to theTerm Spread in the South African context and represents an area for furtherresearch.