Dynamics of the Term Structure of Interest Rates: A Critical Literature Review
Journal Title: IOSR Journal of Economics and Finance (IOSR-JEF) - Year 2018, Vol 9, Issue 1
Abstract
Research on thedeterminants of the term structure of interest rates continues to be an area of substantial interest from the public and private sectors largely due to the economic impact of the term structure on both local and global economies. The purpose of this study was to critically review the literature and empirical evidence available in an effort to establish the key variables that have the greatest effect on the term structure of interest rates. Traditional theories that laid the foundation of understanding the variables include the unbiased expectations hypothesis, which identified forward interest rates as the key variable; liquidity premium hypothesis that found investors will require a higher yield in order to hold longer term bonds due to their preference for liquidity; and the market segmentation hypothesis and preferred habitat theory, which identified differing interest rates for differing market segments or habitats that investors belong to. Empirical research identifies economic variables and market data on the term structureas the key variables. Multi- factor models with changes in regime have also found strong empirical support. The findings from the literature review indicate that short-term interest rates, economic cycles and regime changes have a significant relationship with the term structure of interest rates.
Authors and Affiliations
Christopher K. Maranga, Dr. Mirie Mwangi, Prof. Erasmus Kaijage
Keywords
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