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Measuring market and inflation risk premia in France and in Germany

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Abstract

This paper studies the role of inflation in the determination of financial asset prices. We estimate an Intertemporal Capital Asset Pricing Model à la Merton (1973), with inflation as an independent source of risk, for France and Germany. Our study also allows us to evaluate how the different nature of the French and German monetary policies before 1999 as well as the convergence process towards the single currency might have affected the role of inflation in the pricing of financial assets. We find that inflation is a significant explanatory factor for the pricing of stocks and government bonds in the two countries. Moreover, while there seems to be no clear structural break in the impact of inflation on asset prices after Stage Three of Economic and Monetary Union, such an impact has been increasingly similar in the two countries after 1999.

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Bibliographic Info

Paper provided by European Central Bank in its series Working Paper Series with number 436.

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Length: 33 pages
Date of creation: Feb 2005
Date of revision:
Handle: RePEc:ecb:ecbwps:20050436

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Keywords: Intertemporal CAPM; business cycles; GARCH-in-Mean;

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References

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  1. John H. Cochrane, 1999. "New facts in finance," Economic Perspectives, Federal Reserve Bank of Chicago, issue Q III, pages 36-58.
  2. Merton, Robert C, 1973. "An Intertemporal Capital Asset Pricing Model," Econometrica, Econometric Society, vol. 41(5), pages 867-87, September.
  3. John Y. Campbell, 2000. "Asset Pricing at the Millennium," Harvard Institute of Economic Research Working Papers 1897, Harvard - Institute of Economic Research.
  4. Bekaert, Geert & Harvey, Campbell R, 1995. " Time-Varying World Market Integration," Journal of Finance, American Finance Association, vol. 50(2), pages 403-44, June.
  5. Fama, Eugene F., 1998. "Determining the Number of Priced State Variables in the ICAPM," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 33(02), pages 217-231, June.
  6. Solnik, Bruno H., 1974. "An equilibrium model of the international capital market," Journal of Economic Theory, Elsevier, vol. 8(4), pages 500-524, August.
  7. Bekaert, Geert & Wu, Guojun, 2000. "Asymmetric Volatility and Risk in Equity Markets," Review of Financial Studies, Society for Financial Studies, vol. 13(1), pages 1-42.
  8. John H. Cochrane, 1999. "Portfolio Advice for a Multifactor World," CRSP working papers 491, Center for Research in Security Prices, Graduate School of Business, University of Chicago.
  9. Chen, Nai-Fu & Roll, Richard & Ross, Stephen A, 1986. "Economic Forces and the Stock Market," The Journal of Business, University of Chicago Press, vol. 59(3), pages 383-403, July.
  10. Hamilton, James D, 1989. "A New Approach to the Economic Analysis of Nonstationary Time Series and the Business Cycle," Econometrica, Econometric Society, vol. 57(2), pages 357-84, March.
  11. John T. Scruggs, 1998. "Resolving the Puzzling Intertemporal Relation between the Market Risk Premium and Conditional Market Variance: A Two-Factor Approach," Journal of Finance, American Finance Association, vol. 53(2), pages 575-603, 04.
  12. Black, Fischer, 1972. "Capital Market Equilibrium with Restricted Borrowing," The Journal of Business, University of Chicago Press, vol. 45(3), pages 444-55, July.
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Cited by:
  1. Juan Angel Garcia & Adrian van Rixtel, 2007. "Inflation-linked bonds from a Central Bank perspective," Occasional Paper Series 62, European Central Bank.
  2. Renatas Kizys & Peter Spencer, 2007. "Assessing the Relation between Equity Risk Premium and Macroeconomic Volatilities in the UK," Discussion Papers 07/13, Department of Economics, University of York.
  3. Renatas Kizys & Peter Spencer, 2007. "Assessing the Relation between Equity Risk Premia and Macroeconomic Volatilities," Money Macro and Finance (MMF) Research Group Conference 2006 140, Money Macro and Finance Research Group.
  4. Ghada Abbas, 2006. "Gestion de la dette publique et lissage des taux d’imposition," CAE Working Papers 46, Aix-Marseille Université, CERGAM.

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