Research Discussion Paper – RDP 7706 Interest Rates and Exchange Rate Expectations in the RBA76 Model


This paper examines the effects of including a measure of the yield on company debentures in the RBA76 model. The analysis is designed to test whether the inclusion in the model of a domestic interest rate which is more likely to be market-determined in the short run than the yield on Commonwealth government securities importantly changes the behaviour of the model. A measure of exchange rate expectations is also derived.

Although there are several results of interest, it is not clear that the cost in terms of the additional complexity of the model associated with the inclusion of the debenture rate is outweighed by the benefits. The version of the model considered in this paper which fits the data best has debenture rates adjusting to bond rates, rather than the reverse. The simulation properties of a version of the model in which this causality is reversed are, however, sufficiently different to those of the standard model to suggest that further work of the type in this paper may be of interest.