An examination of the fisher effect in the EURO area

Abstract

The Fisher hypothesis has been a hotly contested topic in monetary economics. Throughout the years it was extensively tested by numerous authors and using varying techniques. This paper seeks to investigate the existence of the Fisher effect in the Euro Area from 1999 to 2011, using the European interbank offered rate as a measure for interest rates, and the six-month maturing German Federal Securities as a measure of expected inflation. Through Augmented Dickey-Fuller tests, evidence is found of a cointegrating relationship, enabling the use of the Error Correction Mechanism and the examination of its coefficients. The test results indicate that the Fisher hypothesis held throughout the entire data set. However, evidence could not be provided for a unitary relationship between the two variables for the September 2008 - March 2011 period. The German Federal Securities' capacity to serve as a proxy for inflation expectations throughout this period was questioned, as was EURIBOR's behaviour throughout times of massive monetary injections. Parallels were also brought with prior literature showing how the Fisher effect came under strain during times of stringent monetary policy stances by the relevant authorities.