Abstract
We examine the ability of short rates and yield spreads to forecast the growth in Australian industrial output. We find that since 1990, the short rate has a significant increase in its predictive power for forecasting output growth in many industries. We document this increase. The yield spread, on the other hand, is useful in predicting the growth of industries with a `longer' production cycle, such as manufacturing and wholesale trade. Hence, the predictive power of the yield spread on total GDP, is mainly from its ability to forecast these industries. Our out-of-sample forecasts show that yield spread is a good forecasting device for many industries, particular for output growth over longer horizons.
Highlights
The predictive power of yield spreads of interest rates on GDP growth has been well studied in recent years
We examined the predictive power of the short rate, the long yield and the yield spread for industry level output growths in Australia
We find that firstly, the short rate and the yield spread are useful in predicting output growth for many, but not all industries
Summary
The predictive power of yield spreads of interest rates on GDP growth has been well studied in recent years. By decomposing the total GDP into different industries, we are able to determine which industries in the economy are more predictable by yield spreads, and help us to understand about the forecasting ability of yield spreads in more detail This kind of study is not able to be done across different countries. We wish to examine the forecast abilities for short and long interest rates as well as the difference of the two, the yield spread on industrial level output growth. As a result of this, we find that the predictive power in yield spread on the total GDP is from its ability to predict the output growth in manufacturing and wholesale trade.
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