Inflation targets and the yield curve: New Zealand and Australia versus the US

Abstract

This study considers whether the slope of the yield curve for New Zealand contains useful economic information. In order to provide some perspective, the present study also contrasts the New Zealand experience with evidence based on US and Australian data. The principal findings of this study are as follows: (1) At short horizons, typically 2 years or less, the term structure for New Zealand behaves as in the expectations hypothesis of the term structure. (2) Nevertheless, there are departures from the expectations hypothesis, especially in the period when inflation objectives in New Zealand were on a declining path. Moreover, the policies of the US had a critically important impact around 1993–1994. (3) Some evidence was found of an effect from the spread to future inflation but only when the headline CPI is used to measure inflation; the links disappear entirely once CPI ex-credit costs are employed. The study argues that such results are consistent with a credible inflation targeting regime, so that the term structure serves possibly to signal changes in real interest rates rather than inflation in New Zealand. (4) There is good evidence that the spread helps predict future output in New Zealand, although the effect seems to dissipate after 1 year. Once we distinguish between periods of positive versus negative growth rates in real gross domestic product (GDP), the spread influences output up to 2 years into the future. Also, when output growth is measured asymmetrically, rising inflation expectations depress output growth. Copyright © 2000 John Wiley & Sons, Ltd.

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