The Term Structure of Real Rates and Expected Inflation
National Bureau of Economic Research, 2007 - Economic forecasting - 66 pages
Changes in nominal interest rates must be due to either movements in real interest rates, expected inflation, or the inflation risk premium. We develop a term structure model with regime switches, time-varying prices of risk, and inflation to identify these components of the nominal yield curve. We find that the unconditional real rate curve in the U.S. is fairly flat around 1.3%. In one real rate regime, the real term structure is steeply downward sloping. An inflation risk premium that increases with maturity fully accounts for the generally upward sloping nominal term structure.
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affine model autocorrelation basis points Bekaert benchmark model IVC coefficient components conditional mean conditional on regime correlation between real covariance decompositions of nominal delta method downward sloping equation estimates expected inflation Fama identify implied by model inflation and inflation inflation and real inflation compensation inflation dynamics inflation regime inflation risk premium Jensen's inequality Journal latent factors likelihood function long rate matches Mishkin monetary policy NBER negative nominal bond prices nominal interest rates nominal rates nominal short rate nominal term spread nominal yield curve nonlinear p-value Panel parameter premia price of risk pricing kernel rates and expected rates and inflation real interest rates real long yields real rates real short rate real term spread real yield curve recessions regime st regime switches regime-dependent risk-neutral measure sample Singleton Stdev term structure model time-varying price transition probability matrix unconditional moments variance decompositions variation vector yields and inflation zero zero coupon bond