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Do Interest Rates Follow Unit-Root Processes? Evidence from Cross-Maturity Treasury Bill Yields

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  • Wu, Yangru
  • Zhang, Hua

Abstract

It is widely reported in the literature that interest rates follow integrated processes. Many empirical studies have, in fact, taken this result as a maintained hypothesis. This article demonstrates that the failure to reject the hypothesis that interest rates contain a unit root may be due to the severe power of standard test procedures in small samples. We analyze a panel of cross-maturity Treasury-bill yield series by employing a panel-based test. This test exploits cross-maturity variations of the data to improve estimation efficiency and is more powerful than standard tests for unit roots. The critical values of the test statistics are computed by Monte Carlo simulations tailored to our samples. It is found that the null hypothesis that each yield series contains a unit root can be decisively rejected. Our findings cast some doubt on previous studies that rely on the nonstationarity assumption of interest rates. Copyright 1997 by Kluwer Academic Publishers

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  • Wu, Yangru & Zhang, Hua, 1997. "Do Interest Rates Follow Unit-Root Processes? Evidence from Cross-Maturity Treasury Bill Yields," Review of Quantitative Finance and Accounting, Springer, vol. 8(1), pages 69-81, January.
    • Handle: RePEc:kap:rqfnac:v:8:y:1997:i:1:p:69-81
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    2. Maurice Obstfeld & Jay C. Shambaugh & Alan M. Taylor, 2005. "The Trilemma in History: Tradeoffs Among Exchange Rates, Monetary Policies, and Capital Mobility," The Review of Economics and Statistics, MIT Press, vol. 87(3), pages 423-438, August.
    3. Mario Cerrato & Hyunsok Kim & Ronald MacDonald, 2013. "Nominal interest rates and stationarity," Review of Quantitative Finance and Accounting, Springer, vol. 40(4), pages 741-745, May.
    4. Jumah, Adusei & Kunst, Robert M., 2002. "On Mean Reversion in Real Interest Rates: An Application of Threshold Cointegtation," Economics Series 109, Institute for Advanced Studies.
    5. Troeger, Vera, 2012. "Monetary Policy Flixibility in floating Exchange Rate Regimes: Currency Denomination and Import Shares," CAGE Online Working Paper Series 82, Competitive Advantage in the Global Economy (CAGE).
    6. Smoluk, H. J., 1999. "Excess long real rate volatility," Journal of Multinational Financial Management, Elsevier, vol. 9(2), pages 155-176, March.
    7. Matti Suominen & Petri Jylhä, 2009. "Arbitrage Capital and Currency Carry Trade Returns," 2009 Meeting Papers 84, Society for Economic Dynamics.
    8. Ming-Hua Liu & Dimitris Margaritis & Zhuo Qiao, 2016. "The Global Financial Crisis and Retail Interest Rate Pass-Through in Australia," Review of Pacific Basin Financial Markets and Policies (RPBFMP), World Scientific Publishing Co. Pte. Ltd., vol. 19(04), pages 1-32, December.
    9. Ms. Nese Erbil & Mr. Shaun K. Roache, 2010. "How Commodity Price Curves and Inventories React to a Short-Run Scarcity Shock," IMF Working Papers 2010/222, International Monetary Fund.
    10. Cathy Yi-Hsuan Chen & Thomas C. Chiang, 2017. "Surprises, sentiments, and the expectations hypothesis of the term structure of interest rates," Review of Quantitative Finance and Accounting, Springer, vol. 49(1), pages 1-28, July.
    11. Martin B. Schmidt, 2004. "Exogeneity within the M2 Demand Function: Evidence from a Large Macroeconomic System," Economic Inquiry, Western Economic Association International, vol. 42(4), pages 634-646, October.
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    13. Smoluk, H. J., 1999. "Domestic variance and international comovement bonds tests of interest rates," International Review of Financial Analysis, Elsevier, vol. 8(3), pages 247-267, March.

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