Bond yield spillovers from major advanced economies to emerging Asia

• Date: 01 February 2018
• Author: Ulrich Volz,Ansgar Belke,Irina Dubova
• DOI: http://doi.org/10.1111/1468-0106.12256
• Published date: 01 February 2018

SPECIAL ISSUE ARTICLE

Bond yield spillovers from major advanced

economies to emerging Asia

Ansgar Belke

1,2

| Irina Dubova

1,3

| Ulrich Volz

4,5

1

University of Duisburg-Essen, Essen, Germany

2

Centre for European Policy Studies, Brussels,

Belgium

3

Ruhr Graduate School, Essen, Germany

4

SOAS University of London, UK

5

German Development Institute, Bonn, Germany

Correspondence

Ulrich Volz, SOAS University of London,

Thornhaugh Street, Russell Square, London

WC1H 0XG, UK.

Email: uv1@soas.ac.uk

Abstract

This article explores the extent to which changes to long-

term interest rates in major advanced economies have

influenced long-term government bond yields in emerg-

ing Asia. To gauge long-term interest spillover effects,

the article uses vector autoregressive (VAR) variance

decompositions with high frequency data. Our results

reveal that sovereign bond yields in emerging Asia

responded significantly to changes to US and eurozone

bond yields, although the magnitudes were heterogeneous

across countries. The size of spillovers varied over time.

The pattern of these variations can partially be explained

by the implementation of different unconventional mone-

tary policy measures in advanced countries.

1|INTRODUCTION

For several years, the central banks of the major advanced economies have pursued historically

unprecedented ultra-low interest rate policies and negative interest rate policies; facing the zero

lower bound problem, they have also implemented various asset purchase programmes, known as

“quantitative easing”(QE), with the aim of reducing long-term interest rates. While there is a con-

tinuing debate on the relation between short-term and long-term interest rates (Roley & Sellon,

1995; Wright, 2012) as well as the effect of QE policies on long-term rates (Belke, Gros, &

Osowski, 2016; Christensen & Krogstrup, 2015; Christensen & Rudebusch, 2012; Gros, Alcidi, &

De Groen, 2015; Krishnamurthy & Vissing-Jorgensen, 2011), there has been growing evidence that

advanced countries’unconventional monetary policies (UMP) have caused significant spillovers to

the financial markets of emerging market economies (EME).

1

Importantly, the decline in short-term and long-term government yields in advanced countries

has contributed to the flow of investment funds into EME assets with higher risk-adjusted returns.

Such additional flows of funds into emerging market bonds may influence domestic monetary

1

See Chen, Filardo, He, and Zhu (2012), Lavigne, Sarker, and Vasishtha (2014), Miyajima et al. (2014), Bowman et al. (2015),

Eichengreen and Gupta (2015), Hofmann and Takáts (2015), Tillmann (2016) and Caceres, Carrière-Swallow, Demir, and

Gruss (2016).

Received: 1 December 2016 Accepted: 1 April 2017

DOI: 10.1111/1468-0106.12256

© 2018 Asian Development Bank Institute (ADBI)

Pacific Economic Review © 2018 John Wiley & Sons Australia, Ltd

Pac Econ Rev. 2018;23:109–126. wileyonlinelibrary.com/journal/paer 109

conditions by altering long-term yields in emerging countries. Furthermore, some EME have

recently experienced increases in foreign investment in conjunction with growth in both the liquidity

and principal outstanding in their local currency government bond markets, potentially increasing

the link between foreign and domestic interest rates through portfolio reallocations between devel-

oped and emerging bond markets (Moore, Nam, Suh, & Tepper, 2013).

Against this backdrop, the present paper investigates the evolution of spillovers from advanced

countries’bond markets to EME. The analysis and quantification of these spillovers provides

insights into the degree of monetary independence that EME enjoy. To gauge long-term interest

spillover effects, the paper uses vector autoregressive (VAR) variance decompositions with daily

data for eight Asian emerging economies (China, India, Indonesia, Korea, Malaysia, the Philippines,

Taipei China and Thailand)

2

as well as Hong Kong China, the United States, the euro area and

Japan for the period May 2003 to September 2016.

In contrast to previous studies looking into monetary policy spillovers to EME, we use high-

frequency data, the dynamics of which are less affected by macroeconomic fundamentals. This is an

advantage in identifying spillovers in financial markets, where news are priced rapidly. Given a

much larger number of observations as compared to using data at lower frequency, we are also able

to better analyse the time variations in the spillovers and detect sudden changes in transmission

magnitudes.

Apart from event studies which are usually based on daily (or intra-daily) data, most empirical

investigations of interest rate spillovers from the advanced countries to EME use monthly or quar-

terly data (Belke et al., 2016). To our knowledge, the only non-event study where high frequency

data is used to investigate interest rate spillovers from the USA to EME is Edwards (2012). How-

ever, there are some important differences between our analysis and that conducted by Edwards.

First, Edwards analyses spillovers from the United States to seven EME, only three of which are

Asian (Indonesia, Korea and the Philippines), while we analyse spillovers to eight Asian EME plus

Hong Kong China. Second, while Edwards investigates only spillovers from the Fed’s monetary

policies to EME, we are interested also in potential interest rate pass-through from the euro area and

Japan, respectively. Third, Edwards covers only the relatively tranquil period of the “great modera-

tion”using data from January 2000 until the second week of September 2008, while our analysis

includes also the time when the Fed, the European Central Bank (ECB) and the Bank of Japan

(BOJ) embarked on UMP on an unprecedented scale. Fourth, Edwards looks into short-term interest

rates while we investigate long-term rates. Fifth, we use daily data, in contrast to the weekly data

used by Edwards. Finally, Edwards uses generalized least squares and generalized method of

moments estimations, whereas we follow a completely different empirical approach based on vector

autoregressions (VAR).

In this paper we construct measures of spillover intensities from major advanced countries to

emerging Asia and analyse their time variations against the backdrop of monetary policy changes or

announcements in advanced economies. The present study is not an event study because we do not

model particular announcements but rather scrutinize the dynamics of the co-movements between

long-term interest rates over a timeframe during which major central banks conducted a number of

UMP. Our results show that sovereign bond yields in emerging Asia are significantly affected by

changes in US and eurozone bond yields, although the magnitude of spillovers varied substantially

over time and across countries. Whereas the turning points in the intensity of spillovers from the

2

These eight Asian economies are included in the widely used Modern Index Strategy Indexes (MSCI) Emerging Markets Index.

Hong Kong China is considered a developed market by MSCI.

110 BELKE ET AL.