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The Case of the Negative Nominal Interest Rates: New Estimates of the Term Structure of Interest Rates during the Great Depression

Stephen G. Cecchetti
Journal of Political Economy
Vol. 96, No. 6 (Dec., 1988), pp. 1111-1141
Stable URL: http://www.jstor.org/stable/1831944
Page Count: 31
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The Case of the Negative Nominal Interest Rates: New Estimates of the Term Structure of Interest Rates during the Great Depression
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Abstract

Throughout the 1930s and early 1940s, U.S. Treasury bonds and notes appeared to have negative nominal yields as they approached maturity. But negative nominal interest rates are impossible in a world in which one can always hold cash. The resolution to this puzzle is that Treasury securities, in addition to making coupon payments, gave the owner the right to buy a new security on a future date. This paper describes the institutional environment that led to the apparent negative nominal interest rates, develops a method for valuing the "exchange privilege," and computes accurate measures of the yield to the coupon-bearing component of these composite bond/options. These corrected bond and not yields are then used to calculate new estimates of the term structure of interest rates from 1929 to 1949.

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