Who Bears Long-Run Inflation Risk? Implications for Bond Risk Premia

Harold Cole, Hanno Lustig and YiLi Chien
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Hanno Lustig: Anderson School of Business

No 449, 2013 Meeting Papers from Society for Economic Dynamics

Abstract: U.S. financial institutions have traditionally insured the typical U.S. household against persistent shocks to U.S. inflation through the U.S. mortgage market. The bond risk premium is effectively the price of long-run inflation risk insurance charged by these U.S. intermediaries. Starting in the late 90's, these intermediaries have increasingly re-sold their U.S. inflation risk exposure to new market participants. We explore the equilibrium implications for bond return predictability in a segmented markets model of the bond market. These changes can account for the recent changes in bond return predictability.

Date: 2013
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Persistent link: https://EconPapers.repec.org/RePEc:red:sed013:449

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