| The Term Structure of Real Interest Rates: Theory and Evidence from (2007) | |||||||||||||||
Abstract | |||||||||||||||
| This paper studies the behavior of the default-risk free real term structure and term premia in two general equilibrium endowment economies with complete markets but without money. In the first economy there are no frictions as in Lucas (1978) and in the second the risk-sharing is limited by the risk of default as in Alvarez and Jermann (1999, 2000). Both models are solved numerically, calibrated to the U.K. aggregate and household data, and the predictions are compared to the data on real interest rate constructed from the U.K. index-linked data. While both models produce time-varying risk or term premia, only the model with limited risk-sharing can generate enough variation in the term premia to account for the rejections of expectations hypothesis. | |||||||||||||||
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