Interest Rate Trends in a Global Context

Abstract

Long-term interest rates have been falling globally since the early 1980s and have reached historically low levels. Past forecasts largely missed this secular decline. This paper reviews methodologies for making long-term interest rate projections. We synthesize results from studies that use long historical series and cross-country data to estimate the trend and decompose it into components. We then construct a set of economic indicators that are potentially useful in interest rate forecasting. We add international, forward-looking economic indicators as explanatory variables in a standard macrofinance forecasting model. We find that the model with international variables can outperform the other models by better tracking the falling trajectory of United States interest rates in the post-2008 period, a trend missed by domestic variables. Further, we find that global economic indicators, especially the composite leading indicator for the European Union, are capable of accounting for a large portion of yield variance not only in the U.S. but in other advanced economies as well.