Monetary policy and long-term interest rates: Evidence from the US economy

This paper addresses the ability of central banks to affect the structure of interest rates. We assess the causal relationship between the short-term Effective Federal Funds Rate (FF) and long-term interest rates associated with both public and private bonds and specifically, the 10-Year Treasury Bond (GB10Y) and the Moody's Aaa Corporate Bond (AAA). To do this, we apply Structural Vector Autoregressive models to U.S. monthly data for the 1954-2018 period. Based on results derived from impulse response functions and forecast error variance decomposition, we find: a bidirectional relationship whenGB10Yis considered as the long-term rate and a unidirectional relationship that moves from short- to long-term interest rates whenAAAis considered. These conclusions show that monetary policy is able to permanently affect long-term interest rates and the central bank has a certain degree of freedom in setting the levels of the short-term policy rate.