Real interest rate convergence under the euro

Abstract

We consider interest rate convergence under the euro. In particular, we employ cointegration tests to evaluate the behaviour of real and nominal interest rates from EU states. We find that real interest rates are not cointegrated but nominal rates are. The failure to find evidence in support of real interest parity is somewhat surprising given that financial markets in Europe are open and we consider interest rates from countries that adopted the euro, and therefore have a common monetary policy. Admittedly a potential problem is the low power of the bilateral cointegration tests given the limited time span of euro era data. However, we also fail to find evidence of cointegration with the more powerful panel tests.