Why did the term structure of interest rates lose its predictive power?

Abstract

In this paper, we perform a multiple structural change test that makes it possible to detect a break in the correlation between spread of interest rate and future activity in 1984 for US monthly data. This break is associated with the loss of the predictive power of the term structure. Hence, we estimate a structural VAR-VECM model and we compute the contributions of each structural shock in generating the predictive power of the spread of interest rates. We show that the loss of predictability of the spread is due to a substantial drop in both contributions of monetary policy and supply shocks.