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An analysis of the dynamic linkages between the cash rate and the government yield curve: a case study

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Date
2010
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Abstract
This paper aims to examine the relationship between the rate of interest on the key instrument of monetary policy in Australia, the overnight cash rate and the debt instruments comprising the Australian Government Yield curve, during the climate of low inflation and transparent monetary policy in Australia since the early 1990s. This relationship is fitted to an Expectations Theory based function. The methods applied are the error-correction and variance decompositions techniques including the most recently developed ‘long run structural modelling’ (Pesaran and Shin, 2002). The findings indicate that, contrary to common belief, longer-term interest rates more often than not tend to lead the cash rate and other shorterterm rates. Australian monetary policy relies on the assertion that the shorter term rate leads the longer term rates, and that changes in the cash rate will reverberate through the yield curve to the longer term rates, which in turn affect aggregate demand and other economic indicators. The findings of our study based on the recent rigorous time-series techniques tend to cast doubts on the efficiency and effectiveness of current monetary policy in Australia.
Keywords
Rate of interest , Monetary policy , Expectations Theory , Australia
Citation
Mohammed Masih, A. M., & Ryan, V. (2010). An analysis of the dynamic linkages between the cash rate and the government yield curve: a case study. Energy Policy, 38(3), pp. 1372–1378.
Publisher
Elsevier
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