Term Premia for the Euro Area and the Transmission Mechanism of Monetary Policy
Given the common monetary policy in Europe, term premia on bonds issued by different countries are an immediate gauge of the heterogeneity in the transmission mechanism of monetary policy in Europe and of the need for intervention to protect the Euro area against it.
Nominal yields at different maturities can be decomposed in two terms, capturing respectively the expectations of future monetary policy and the term premium.
The first term can be represented as the market expectations on the average short rate (the monetary policy rate) over the maturity of the bond, while the term premium is a risk premium component representing the additional compensation required by the investor to be indifferent between a buy-and-hold strategy in the longer maturity bond and a roll-over investment strategy in the sequence of monetary policy rates.
Given the common monetary policy in Europe, term premia on bonds issued by different countries are an immediate gauge of the heterogeneity in the transmission mechanism of monetary policy in Europe and of the need for intervention to protect the Euro area against it.
Given the observation of the yields on bonds at different maturities, the derivation of term premia requires a proxy for the average future short rate over the maturity of the bond.
This website provides first historical estimates for the 10-year term premia from 2000 onwards for Germany, France, Spain and Italy using the consensus forecasts and a simple autoregressive model for the change in monetary policy rates to predict monetary policy rate in real time in each period.
It then allows to compute current value of the term premia using the two historical benchmarks and forecasts for the future monetary policy rates inputed by the user.
Many different models have been proposed in the literature to predict monetary policy and decompose yields to maturity into a term premium and an expected monetary policy components, and the term premium can be further decomposed in compensation for real rate risk and for inflation.
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