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A Smooth Shadow-Rate Dynamic Nelson-Siegel Model for Yields at the Zero Lower Bound

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  • Daan Opschoor
  • Michel van der Wel

Abstract

We propose a smooth shadow-rate version of the dynamic Nelson-Siegel (DNS) model to analyze the term structure of interest rates during a zero lower bound (ZLB) period. By relaxing the no-arbitrage restriction, our shadow-rate model becomes highly tractable with a closed-form yield curve expression. This permits the implementation of readily available DNS extensions such as allowing for time-varying parameters and the integration of macroeconomic variables. Using U.S. Treasury data, we provide clear evidence of a smooth transition of the yields entering and leaving the ZLB state. Moreover, we show that the smooth shadow-rate DNS model dominates the baseline DNS model and (shadow-rate) affine term structure models in terms of fitting and forecasting the yield curve, while it also produces plausible policy insights at the ZLB.

Suggested Citation

  • Daan Opschoor & Michel van der Wel, 2025. "A Smooth Shadow-Rate Dynamic Nelson-Siegel Model for Yields at the Zero Lower Bound," Journal of Business & Economic Statistics, Taylor & Francis Journals, vol. 43(2), pages 298-311, April.
    • Handle: RePEc:taf:jnlbes:v:43:y:2025:i:2:p:298-311
    DOI: 10.1080/07350015.2024.2365779
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