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Author:
Yung-Chang Wang  


Issue Date:
2008


Abstract(summary):

Current literature documented that the interest rate spread is positively associated with economic activity and such an association has weakened over time. In addition to examine the correlation between economic activity using multiple regression models (Hamilton and Kim, 2002), this paper aims to investigate the correlation between interest rate spreads and volatility of economic activity using the GARCH (1,1) model and furthermore to investigate whether such a correlation has also changed over time using a dummy variable to divide the period under investigation into two sub-periods. Evidence from estimating multiple regression and GARCH (1,1) models indicates that, as those found from current literature, interest rate spreads lagged by two and three quarters are significantly positively correlated with real GDP growth and the positive correlation shows a tendency to weaken over time. Evidence from estimating GARCH (1,1) models further indicates that the lagged interest rate spread by one quarter shows a significantly negative effect on volatility of real GDP growth, moreover, the effect has turned to be more substantial over time and volatility persistence is unaffected by including interest rate spreads in the conditional variance equation. These empirical findings call for a theoretical investigation into the relationship between interest rate spreads and volatility of economic activity.


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17


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