Changes in six-month bill rates over semiannual periods in the 1960s and 1970s are successfully related to expected changes and to surprises. The latter include unanticipated changes in expected inflation, in the growth of industrial production and base money, and in inflation uncertainty. Estimation of the basic equation through the middle of 1983 does not suggest any change in structure. Moreover the equation “explains” 60 percent of the extraordinarily high level of real rates since late 1980, largely owing to an excess of unexpected net increases in anticipated inflation over actual increases.
Our estimates provide some support for the expectations theory; there appears to be information content in six–month forward rates. While this content is swamped by the impact of surprises in equations explaining rate changes in terms of forward rates alone, the content is clear when proxies for the surprises are included in the equations.
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