Market anticipation of monetary policy actions and interest rate transmission to US Treasury market rates

Abstract

This paper decomposes monetary policy changes into anticipated and unanticipated ones. Then US Treasury rate pass-through and the corresponding central bank reaction function are analyzed within an asymmetric error-correction framework. Our empirical analysis indicates that changes in policy rate have a significant effect on Treasury rates in all maturity spectra during periods of anticipated policies only, implying asymmetric transmission. Moreover, some evidence is provided in favor of a nonlinear adjustment toward a long-run equilibrium, as the long-term rates adjust faster in such periods. Impulse response analysis indicates that in periods of low monetary policy anticipation, a shock in long term rates may engage central bank to significant reactions reflected in the policy rate with possible destabilizing effects for the economy. Given that smooth interest rate movements are linked to successful management of the economy more transparent policies are suggested. Our findings can be useful for the US monetary authorities in their attempt to monitor the long-term rate pass-through and reinforce monetary policy effectiveness. (C) 2013 Elsevier B.V. All rights reserved.