The Effect of Fiscal and Monetary Policies and the Global Economy on Real Yields of Israel Government Bonds
This study examines the effect of fiscal and monetary policies, as well as domestic and global economic activity, on real yields of Israel government bonds between 2001 and 2013. We find an effect of fiscal policy on yields that is larger in longer maturities and discover that the fiscal policy variable that affects yields is the expected debt/GDP ratio rather than the deficit. Monetary policy is found to have a dominant effect on the determination of short-maturity yields but also a statistically significant, although small, effect on forward long ones. The global financial environment, represented by the real yields on US Treasury bonds, affects domestic yields to all maturities. Our nonlinear estimation indicates that the effects of the public debt and the global financial environment intensified during the sample period. Decomposing the change in yields over the sample period, we find that monetary policy played a dominant role in the decline of short- and medium-term yields in the middle of the previous decade, while the decline in the public debt ratio explains much of the decline in the long-term yields. It was also found that the global financial environment significantly affected yield changes to all maturities throughout the sample period. Our findings qualitatively match those of Ber, Brender, and Ribon (2004) but reflect an enhancement of the effects of the public debt and the global environment on Israeli yields and a shift of the representation of fiscal policy from the deficit to the debt ratio.