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Interest rate volatility prior to monetary union under alternative pre-switch regimes

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  • Wilfling, Bernd
Abstract
The volatility of interest rates is relevant for many financial applications. Under realistic assumptions the term structure of interest rate differentials provides an important prediction of the term structure of interest rates. This paper derives the term structure of differentials in a situation in which two open economies plan to enter a monetary union in the future. Two systems of floating exchange rates prior to the union are considered, namely a free-float and a managed-float regime. The volatility processes of arbitraryterm differentials under the respective pre-switch arrangements are compared. The paper elaborates the singularity of extremely short-term (i.e. instantaneous) interest rates under extensive leaning-against-the-wind intervention policies and discusses empirical issues.

Suggested Citation

  • Wilfling, Bernd, 2001. "Interest rate volatility prior to monetary union under alternative pre-switch regimes," HWWA Discussion Papers 143, Hamburg Institute of International Economics (HWWA).
    • Handle: RePEc:zbw:hwwadp:26277
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    References listed on IDEAS

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    Cited by:

    1. Reher, Gerrit & Wilfling, Bernd, 2014. "The valuation of European call options on zero-coupon bonds in the run-up to a fixed exchange-rate regime," International Review of Economics & Finance, Elsevier, vol. 29(C), pages 483-496.
    2. Davies, Laurie & Höhenrieder, Christian & Krämer, Walter, 2012. "Recursive computation of piecewise constant volatilities," Computational Statistics & Data Analysis, Elsevier, vol. 56(11), pages 3623-3631.

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    More about this item

    Keywords

    Interest rate volatility; term structure; exchange rate arrangements; intervention policy; stochastic processes;
    All these keywords.

    JEL classification:

    • F33 - International Economics - - International Finance - - - International Monetary Arrangements and Institutions
    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • C52 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Evaluation, Validation, and Selection

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