April 2016

Time Series Model of Interest Rates With the Effective Lower Bound

Benjamin K. Johannsen and Elmar Mertens


Modeling interest rates over samples that include the Great Recession requires taking stock of the effective lower bound (ELB) on nominal interest rates. We propose a flexible time--series approach which includes a "shadow rate''---a notional rate that is less than the ELB during the period in which the bound is binding---without imposing no--arbitrage assumptions. The approach allows us to estimate the behavior of trend real rates as well as expected future interest rates in recent years.

Accessible materials (.zip)

Keywords: Bayesian Econometrics, Effective Lower Bound, Shadow Rate, State-Space Model, Term Structure of Interest Rates

DOI: http://dx.doi.org/10.17016/FEDS.2016.033

PDF: Full Paper

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Last Update: June 19, 2020