Low Risk-Free Rates and Intertemporal Arbitrage

Marlon Azinovic-Yang, Harold Cole and Felix Kubler

No 31832, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: Is deficit finance free when real borrowing rates are routinely lower than growth rates? We study this question in a production-based asset-pricing model that features heterogeneous trading technologies as well as idiosyncratic and aggregate risk and can match the observed low average risk-free rate and the high market price of risk. We use our model to examine under which conditions realistic calibrations allow for (bounded) intertemporal arbitrage, that is to say, the possibility of infinite rollover of a short position. We give examples where this infinite rollover is possible. However, for our benchmark calibration that matches the high market price of risk observed in the data, rollover is impossible even if the average risk-free rate lies 3.5 percent below the average growth rate. The result is robust with respect to the introduction of permanent growth shocks.

JEL-codes: C6 E22 E43 E44 G12 (search for similar items in EconPapers)
Date: 2023-11
Note: EFG
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Citations: View citations in EconPapers (1)

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