This thesis examines, both theoretically and empirically, the relationship between the Australian term structure of interest rates and future changes in real economic activity. Of the few Australian papers that have examined this relationship, all have found that the slope of the term structure was a good predictor of output growth. This thesis uses both, quantitative and qualitative dependent variable methodologies to examine a wide range of measures of the term structure and real activity. In addition, the term structure was compared to other widely used financial variables that are thought to possess leading indicator properties.
It was found that there did exist a strong positive relationship between the term structure and future real economic activity. This relationship was found to be strongest for forecasting horizons exceeding one year, but not exceeding two years. Of the measures of real activity examined, tile relationship with investment expenditure was found to be the strongest, followed by gross domestic product and aggregate consumption. The term structure generally outperformed all other financial variables examined.