Macroeconomic linkages between monetary policy and the term structure of interest rates

Kung, H (2015) Macroeconomic linkages between monetary policy and the term structure of interest rates. Journal of Financial Economics, 115 (1). pp. 42-57. ISSN 0304-405X

Abstract

This paper studies the equilibrium term structure of nominal and real interest rates and time-varying bond risk premia implied by a stochastic endogenous growth model with imperfect price adjustment. The production and price-setting decisions of firms drive low-frequency movements in growth and inflation rates that are negatively related. With recursive preferences, these growth and inflation dynamics are crucial for rationalizing key stylized facts in bond markets. When calibrated to macroeconomic data, the model quantitatively explains the means and volatilities of nominal bond yields and the failure of the expectations hypothesis.