Interest Rate Innovations and the Volatility of Long-Term Bond Yields

This paper develops and tests restrictions on the variance of innovations in long-term bond yields implied by the expectations model of the term structure. The authors adapt Kenneth D. West's (1988) stock-price volatility tests to the case of long but finite maturity bonds. Their approximate equality restriction does not require short-term rates to be stationary and, hence, provides a unified framework for volatility testing. When short rates are modeled as stationary, long-rate innovations appear excessively volatile. When short rates are modeled as difference stationary, long-rate innovations appear excessively smooth.

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	Cushing, Matthew J Professor of Economics Expertise: Monetary Policy Public Finance Econometrics Economics CBA 352 P.O. Box 880489 University of Nebraska-Lincoln Lincoln, NE 68588-0489, USA Phone: (402) 472-2323 Fax: (402) 472-9700 mcushing1@unl.edu	Cushing, Matthew J	Economics