Was There a "Peso Problem" in the U.S. Term Structure of Interest Rates:1979-1982?

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During the period following October 1979 through 1982, the U.S. Federal Reserve allowed interest rates to fluctuate widely, in contrast to its previous policy of targeting these rates in the 1970. The policy was abandoned in 1982 in favor of an operating procedure that reduced the variation in interest rates. This paper implements an estimation method to identify from the term structure of Eurodollar returns the market's beliefs that the Fed may revert to interest rate targeting. The model is not rejected and gives plausible estimates of the probability of a switch in monetary regimes.

Published: International Economic Review, Vol. 31, No., February 1991. Pp. 159-173

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