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John Maynard Keynes argued that the central bank influences the long-term interest rate through the effect of its policy rate on the short-term interest rate. However, Keynes’s claim was confined to the behavior of the long-term government bond yield. This paper investigates whether Keynes’s claim holds for the yields of spread products and over-the-counter financial derivatives by econometrically modeling the dynamics of the pound sterling–denominated longterm interest rate swap yield. It uses the generalized autoregressive conditional heteroskedasticity (GARCH) modeling approach to examine the relationship between the month-over-month changes in the short-term swap yield and the month-over-month change in the long-term swap yield, while controlling for several key macroeconomic and financial variables. The month-overmonth change in the short-term interest rate has a positive and statistically significant effect on the month-over-month change in the long-term swap yield. This finding reinforces Keynes’s conjecture concerning the central bank’s influence over the long-term interest rate. The investigation’s empirical findings and their policy implications are discussed from a Keynesian perspective.


JEL Classifications: E43; E50; E58; E60; G10; G12

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Working Paper No. 1012, downloaded from the Levy Economics Institute of Bard College. The Levy Economics Institute Working Paper Collection presents research in progress by Levy Institute scholars and conference participants. The purpose of the series is to disseminate ideas to and elicit comments from academics and professionals.

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Creative Commons Attribution 4.0 International License
This work is licensed under a Creative Commons Attribution 4.0 International License.



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