Asymmetric Impacts of Inflation on the US Bond Rates and FED’s Pre-Emptive Policy

İsmet Göçer; Serdar Ongan

doi:10.2478/erfin-2020-0008

İsmet Göçer Department of Econometrics, Aydın Adnan Menderes University, Turkey
Serdar Ongan Department of Economics, St. Mary's College of Maryland, United States

DOI: https://doi.org/10.2478/erfin-2020-0008

Keywords: Fisher Effect, Nonlinear and Linear ARDL Models, The FED, Preemptive Strike

Abstract

This study investigates the asymmetric impacts of changes in inflation rates on the US bond rates. This investigation is constructed on the Fisher Equation. To this end, the nonlinear ARDL model is applied. Empirical findings indicate that only the decreases (π_t^-) in inflation rates affect bond rates. This asymmetric impact therefore shapes the FED’s monetary policy in terms of determining the bond rates at lower cost. When the inflation rate rises, the FED will know (in advance) that they do not need to increase the bond rates. This reminds us the FED’s former pre-emptive strike policy against inflation.

References

Adegboyega, S. B., Odusanya, I. A., and Popoola, R. (2013). Fisher’s Effect in Nigeria: Empirical Analysis using ARDL (Bound Test) Approach. International Journal of Science and Research, 2(12):378–382.

Berument, M. H. and Jelassi, M. M. (2002). The Fisher hypothesis: a multi-country analysis. Applied Economics, 34(13):1645–1655.

Cai, Y. (2018). Testing the Fisher Effect in the US. Economics Bulletin, 38(2):1014–1027.

Chen, C. (2015). “Fisher Effect” Theory and “Fisher Paradox” in China’s Economic. Open Journal of Social Sciences, 3(10):80–85.

Clemente, J., Gadea, M. D., Montan˜´es, A., and Reyes, M. (2017). Structural Breaks, Inflation and Interest Rates: Evidence from the G7 Countries. Econometrics, 5(11):1–17.

Crowder, W. J. and Hoffman, D. L. (1996). The Long Run Relationship Between Nominal Interest Rates and Inflation: The Fisher Equation Revisited. Journal of Money, Credit, and Banking, 28(1):102–118.

Darby, M. R. (1975). The Financial and Tax Effects of Monetary Policy on Interest Rates. Economic Inquiry, 13(2):266–276.

Edirisinghe, N., Sivarajasingham, S., and Nigel, J. (2015). An Empirical Study of the Fisher Effect and the Dynamic Relationship between Inflation and Interest Rate in Sri Lanka. International Journal of Business and Social Research, 5(1):47–62.

FED (2019). Economic Research. Federal Reserve Bank of St. Louis. https://research.stlouisfed.org/, Accessed: 11.12.2019.

Feldstein, M. (1976). Inflation, Income Taxes, and the Rate of Interest: A Theoretical Analysis. The American Economic Review, 66(5):809–820.

Fisher, I. (1930). The Theory of Interest. New York: MacMillan.

Ghazali, N. A. and Ramlee, S. (2003). A long memory test of the long-run Fisher effect in the G7 countries. Applied Financial Economics, 13(10):763–769.

IMF (2019). Data Planet, www.imf.org, Acessed: 11.12.2019.

Incekara, A. A., Demez, S., and Ustaoglu, M. (2012). Validity of Fisher effect for Turkish economy: Cointegration analysis. The Procedia - Social and Behavioral Sciences, 58:396–405.

Ito, T. (2016). Does the Fisher Hypothesis Hold in Sweden? An Analysis of Long-Term Interest Rates under the Regime of Inflation Targeting? Review of Integrative Business and Economics Research, 5(3):283–295.

Lee, J. L., Clark, C., and Ahn, S. K. (1998). Long- and short-run Fisher effects: new tests and new results. Applied Economics, 30(1):113–124.

Malliaropulos, D. (2000). A note on nonstationarity, structural breaks and the Fisher effect. Journal of Banking and Finance, 24(5):695–707.

Million, N. (2004). Central Bank’s interventions and the Fisher hypothesis: a threshold cointegration investigation. Economic Modelling, 21(6):1051–1064.

Mishkin, F. S. (1991). Is the Fisher effect for real?: A reexamination of the relationship between inflation and interest rates. NBER Working Paper, N. 3632.

Mishkin, F. S. and Simon, J. (1995). An Empirical Examination of the Fisher Effect in Australia. Economic Record, 71(214):217–229.

Mundell, R. (1963). Inflation and Real Interest. Journal of Political Economy, 71(3):280–283.

Ng, S. and Perron, P. (2001). LAG Length Selection and the Construction of Unit Root Tests with Good Size and Power. Econometrica, 69(6):1519–1554.

Pelaez, R. F. (1995). The Fisher effect: Reprise. Journal of Macroeconomics, 17(2):333–346.

Pesaran, M. H., Shin, Y., and Smith, R. J. (2001). Bounds testing approaches to the analysis of level relationships. Journal of Applied Econometrics, 16(3):289–326.

Phillips, P. C. B. and Perron, P. (1988). Testing for a Unit Root in Time Series Regression. Biometrika, 75:335–346.

Shin, Y., Yu, B., and Greenwood-Nimmo, M. (2014). Modelling Asymmetric Cointegration and Dynamic Multipliers in a Nonlinear ARDL Framework. In Sickels, R. and Horrace, W., editors, Festschrift in Honor of Peter Schmidt: Econometric Methods and Applications, page 281–314. Springer.

Tanzi, V. (1980). Inflationary Expectations, Economic Activity, Taxes and Interest Rates. American Economic Review, 70(1):12–21.

Tobin, J. (1965). Money and Economic Growth. Econometrica, 33(4):671–684.

Toyoshima, Y. and Hamori, S. (2011). Panel cointegration of the Fisher effect: Evidence from the US, the UK and Japan. Economics Bulletin, 31(3):2674–2682.

Weidmann, J. (1997). New Hope for the Fisher Effect? A Re-Examination Using Threshold Cointegration. Discussion Paper, N. B-385.

Wicksell, K. (1907). The Influence of the Rate of Interest on Prices. The Economic Journal, 17(66):213–220.

Wong, K.-F. and Wu, H.-J. (2003). Testing Fisher hypothesis in long horizons for G7 and eight Asian countries. Applied Economics Letters, 10(14):917–923.

Yaya, K. (2015). Testing the Long-Run Fisher Effect in Selected African Countries: Evidence from ARDL Bounds Test. International Journal of Economics and Finance, 7(12):168–175.