1
$\begingroup$

I would like to know why we always focus on 10 years sovereign rates when we talk about interest rates ? Let me clarify. I'm reading a paper from the Bank of England that emphasizes the fact that since the 80's the natural interest rate is falling. And to illustrate it they show us that 10 years sovereign rates are falling in USA and Europe. But why did they choose these sovereign bond as a proxy for the natural rate ? I mean, the natural rate is influenced by structural forces (demographic, productivity and so on..) while sovereign rate depends on other things (central bank policies, risk etc..).

$\endgroup$
1
$\begingroup$

Sovereign rates in developed countries represent the credit risk-free curve. What maturity on the curve you want to choose is an analytical choice.

The natural rate is in reference to a risk-free curve, and so should align with the sovereign curve. Also, “Natural rate” is somewhat dated at this point, the preference is to use a more neutral term like r*.

| improve this answer | |
$\endgroup$
  • 1
    $\begingroup$ +1 but natural rate is far from an archaic term as is still widely used in papers especially in theory papers. Even in empirical papers it’s still quite widely used see for example the highly cited paper below from 2017 - I think saying that’s archaic is bit hyperbolic. scholar.google.com/… $\endgroup$ – 1muflon1 Jul 13 at 13:11
  • $\begingroup$ Somewhat archaic is a vague formulation. I’ll switch to “dated”. $\endgroup$ – Brian Romanchuk Jul 13 at 13:35
  • $\begingroup$ So sovereign rate tend to align with r* only because both are risk-free rates ? $\endgroup$ – user28453 Jul 13 at 14:20
  • $\begingroup$ If there were two risk-free curves, what makes them distinct (other than the fact that r* is an alleged equilibrium rate, and the observed curve is the result of market trading)? $\endgroup$ – Brian Romanchuk Jul 13 at 17:57

Your Answer

By clicking “Post Your Answer”, you agree to our terms of service, privacy policy and cookie policy

Not the answer you're looking for? Browse other questions tagged or ask your own question.