Regime Switches in Interest Rates

Abstract

We examine the econometric performance of regime-switching models for interest rate data from the United States, Germany, and the United Kingdom. Regime-switching models forecast better out-ofsample than single-regime models, including an affine multifactor model, but do not always match moments very well. Regime-switching models incorporating international short-rate and term spread information forecast better, match sample moments better, and classify regimes better than univariate regime-switching models. Finally, the regimes in interest rates correspond reasonably well with business cycles, at least in the United States.