A Note on the Predictive Power of the Term Spread for the Output Gap

Abstract The term spread predicts the output gap of the U.S. economy, only at short horizons, over the full post-World War II sample. Predictive linear regressions are characterized by parameter instability. Differently from the case of forecasting models for output growth, there is no breakdown of predictive ability for the output gap that takes place after 1985. Rather, it is the role of information on current monetary policy that becomes negligible for the prediction of the output gap over the post-1985 subsample. JEL classification numbers: E43, E27. Keywords: term structure, yield spread, output gap, predictability.