Bond Premium in Turkey: Inflation Risk or Default Risk?

Erdem Basci and Mehmet Ekinci

Emerging Markets Finance and Trade, 2005, vol. 41, issue 2, 25-40

Abstract: In this paper we examine the difference between T-bill returns and common stock returns in Turkey. We observe that there is a bond premium in Turkey unlike the equity premia in developed countries. As an attempt to explain this surprising observation, we incorporate inflation risk and default risk to the Mehra and Presscott (1985) dynamic asset-pricing model. Calibration with reasonable parameter values indicates that the inflation risk alone is not sufficient to explain the observed bond premium. However, by allowing for the presence of a perceived default probability, we can explain the observed bond premium on Turkish T-bills over Turkish common stocks.

Keywords: asset pricing; bond premium; default risk; equity-premium puzzle; inflation risk (search for similar items in EconPapers)
Date: 2005
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