The Forward Premium Of Euro Interest Rates

A popular way of extracting market expectations about future interest rates is the computation of implicit forward rates from the yield curve (Söderlind and Svensson, 1997). However, the forward rate may differ from market expectations by a forward premium. This paper shows that indeed there is a forward premium in the euro area forward rates. There is also a weak evidence that the premium is time-varying. The existence of a premium in the forward rates implies that in order to extract market expectations on interest rates from the yield curve it is first necessary to compute the forward premium.