By Cong Ding
A country’s yield spread, defined as the difference between its long term and short term interest rates, has historically been used in developed countries as a proxy for projecting the economy’s future gross domestic product. Because interest rates are so liquid, data on rates are accessible and up to date. This means that the yield spread can be derived very quickly, and can therefore serve as an useful indicator for future economic growth. This paper empirically examines if interest rate data collected from the Chilean Central Bank construct yield spread indicators that can be used to predict GDP levels in subsequent periods. In addition, I assess whether the predictability is equally strong across different monetary policy regimes within the time period. I expected to find that the yield spread is positively correlated with GDP, but due to the volatile nature of an emerging market, I do not expect for the predictability to be consistent across the entire time period examined. I find that the Chilean yield spread does have predictive power on GDP, but that predictability is not clearly distinct across different monetary policy regime.
Advisor: Michelle Connolly
