The Real Rate of Interest from 1800-1990: A Study of the U.S. and U.K. (Reprint 028)

Jeremy J. Siegel

Rodney L. White Center for Financial Research Working Papers from Wharton School Rodney L. White Center for Financial Research

Abstract: Spurred by the work of Mehra and Prescott (M-P), economists have been attempting to explain the surprisingly low levels of real interest rates in light of the behavior of aggregate consumption. This paper constructs a continuous "risk-free" interest rate series for the United States and the United Kingdom from the beginning of the nineteenth century, extending the period analyzed by M-P, 1889-1978, both backward and forward. It is found that the real rate of return on both long and short-term bonds was over 400 basis points lower during the M-P period than outside that period and that this result holds for the U.K. as well as the U.S. In contrast, equities show almost identical real returns over the whole sample so that the equity premium is only about one-third as large outside the M-P period as within the period. These new data help reconcile the behavior of consumption and the real rate and reveal that the data from 1889-1979 were subject to factors or events, not well-understood, which depressed real interest rates.

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