Indeed, I will argue that in order to understand how unconventional policy affects the exchange rate at, or close to, the lower bound, it is useful to break down long-term yields into their two main components – the expectations component and the term premium. Slide 3 shows the insights that can be gained from this breakdown. Here I focus on the period 2012 to 2014. During this period, short-term rates barely moved, as you saw on the previous slide, while the long-term interest rate differential was by and large disconnected from exchange rate movements – you can see this clearly again on the left-hand side. But now consider the right-hand chart. Here I plot the exchange rate against the differential of the expectations component of ten-year interest rates as extracted from dynamic term structure models.7 Put simply, it is the same ten-year rate differential as on the left-hand chart, only corrected for the term premium estimate. The correlation during 2012 and 2013 is compelling, at around 0.75. Shortly before the crisis, in 2005 and 2006, the correlation was less than 0.4. Incidentally, the close relationship coincides with a considerable strengthening of central banks’ forward guidance on interest rates. The Federal Reserve, for example, introduced date-based forward guidance in mid-2011 and adopted state-contingent guidance in late 2012. The ECB, for its part, introduced rate forward guidance for the first time in July 2013, one year before it announced its credit easing programme.
But, if we look at the right-hand side of this slide, it is intriguing to see such a close relationship between the exchange rate and relative bond term premia differential as that observed during the course of this year. Conclusion Let me conclude. Deciphering exchange rate movements, and giving them a structural interpretation, remains a topic that requires the dedication and passion of many researchers. Much has already been learned, but much still remains to be understood. The introduction of unconventional monetary policy measures forces us to think more deeply about the channels through which such 9 / 11  BIS central bankers' speeches  measures affect the exchange rate, with regard to their impact both on the expected future path of short-term interest rates and on risk premia. An important aspect in this endeavour is to gain a better understanding of the role of portfolio rebalancing. Evidence is growing, and my remarks today are intended to add to this, that portfolio rebalancing is a major transmission channel of central bank asset purchases. At the same time, the signalling and portfolio rebalancing channels of central bank asset purchase programmes might, at times, work in opposite directions, with unclear implications for the exchange rate. Moreover, in an integrated global financial system, unconventional policy measures have been shown to often trigger large cross-border capital flows.