Date of this Version
Journal of Financial Economics
This paper proposes a consumption-based model that accounts for many features of the nominal term structure of interest rates. The driving force behind the model is a time-varying price of risk generated by external habit. Nominal bonds depend on past consumption growth through habit and on expected inflation. When calibrated to data on consumption, inflation, and the aggregate market, the model produces realistic means and volatilities of bond yields and accounts for the expectations puzzle. The model also captures the high equity premium and excess stock market volatility.
© 2006. This manuscript version is made available under the CC-BY-NC-ND 4.0 license http://creativecommons.org/licenses/by-nc-nd/4.0/.
Wachter, J. A. (2006). A Consumption-Based Model of the Term Structure of Interest Rates. Journal of Financial Economics, 79 (2), 365-399. http://dx.doi.org/10.1016/j.jfineco.2005.02.004
Date Posted: 27 November 2017
This document has been peer reviewed.