Linkage in EMS term structures: Evidence from common trend and transitory components

We test for the link among selected EMS term structures during 1979-95. By decomposing each term structure into its common trend and transitory components, we find that EMS common trends move together over time, that the German trend is not the driving source of the shared co-movements, and that the transitory components ('spread') are more loosely linked in recent years perhaps due to widened exchange rate bands. Our findings refute arguments that Germany plays a dominant role in setting policy and raise doubts that it will play a dominant role if and when EMU takes place. (C) 1997 Elsevier Science Ltd.