Time series dynamics of short-term interest rates: evidence from Eurocurrency markets

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Abstract This paper presents a short-term Eurocurrency rate model that integrates dynamics from the error correction, the lagged structure, the time delay and the underlying stochastic time series patterns. From testing eight Eurocurrency rates, the evidence indicates that both the short rate and the adjoining long rate are cointegrated. Estimations of the ‘transfer function-noise model’ suggest that the change in explaining long-term interest rate and error correcting term are highly significant. As these two variables are found to have longer time lags, the error-correction model integrated with the transfer function specification is more appealing than the traditional regression model.