Short-Term and Long-Term Interest Rates in a Monetary Model of a Small Open Economy

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This paper analyzes the effects of both anticipated and unanticipated monetary and fiscal disturbances, on the dynamic behavior of a monetary model of a small open economy. It focuses on the adjustment of the short-term and long-term interest rates and the divergence of their transitional paths, particularly in anticipation of these disturbances. The analysis demonstrates how anticipation of a future policy change can generate perverse short-run behavior. The essential reason for the divergence between the short and long rates is that the latter is dominated by long-term expectations, while the former is primarily determined by current influences.

Published: Turnovsky, Stephen J. "Short-Term and Long-Term Interest Rates in a Monetary Model of a Small Open Economy," Journal of International Economics, Vol. 20, No. 3/4. May 1986, pp. 291-311.

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