Estimating the Policy Rule from Money Market Rates when Target Rate Changes Are Lumpy

in Developments in Macro-Finance Yield Curve Modelling, 2014.

Most central banks effect changes to their target or policy rate in discrete increments (e.g., multiples of 0.25%) following public announcements on scheduled dates. Still, it is common to rely on the assumption that the policy rate changes continuously with economic conditions. Most applications also do not distinguish between dates with and without scheduled announcements. This assumption is not innocuous when estimating the policy rule based on daily frequency. I find that accounting for discrete changes leads to economically different estimates of an otherwise standard term structure model.

Working paper version available here.