Research Discussion Papers, Bank of Finland
No 22/2000:
The Term Structure of Real Interest Rates: Theory and Evidence from UK Index-Linked Bonds
Juha Seppälä ()
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 risk-sharing is
limited by the risk of default as in Alvarez and Jermann (2000ab). Both
models are solved numerically, calibrated to UK aggregate and household
data, and the predictions are compared to data on real interest rates
constructed from the UK 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.
Keywords: term structure of interest rates; general equilibrium; default risk; term premia; index-linked bonds; (follow links to similar papers)
JEL-Codes: E43; E44; G12; (follow links to similar papers)
61 pages, December 29, 2000
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