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Understanding Inflation-Indexed Bond Markets

  • John Y. Campbell
  • Robert J. Shiller
  • Luis M. Viceira

This paper explores the history of inflation-indexed bond markets in the US and the UK. It documents a massive decline in long-term real interest rates from the 1990's until 2008, followed by a sudden spike in these rates during the financial crisis of 2008. Breakeven inflation rates, calculated from inflation- indexed and nominal government bond yields, stabilized until the fall of 2008, when they showed dramatic declines. The paper asks to what extent short-term real interest rates, bond risks, and liquidity explain the trends before 2008 and the unusual developments in the fall of 2008. Low inflation-indexed yields and high short-term volatility of inflation-indexed bond returns do not invalidate the basic case for these bonds, that they provide a safe asset for long-term investors. Governments should expect inflation-indexed bonds to be a relatively cheap form of debt financing going forward, even though they have offered high returns over the past decade.

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Article provided by Economic Studies Program, The Brookings Institution in its journal Brookings Papers on Economic Activity.

Volume (Year): 40 (2009)
Issue (Month): 1 (Spring) ()
Pages: 79-138

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Handle: RePEc:bin:bpeajo:v:40:y:2009:i:2009-01:p:79-138
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  4. Barr, David & Campbell, John, 1997. "Inflation, Real Interest Rates, and the Bond Market: A Study of UK Nominal and Index-Linked Government Bond Prices," Scholarly Articles 3163261, Harvard University Department of Economics.
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  7. John Y. Campbell & Tuomo Vuolteenaho, 2003. "Bad Beta, Good Beta," Harvard Institute of Economic Research Working Papers 2016, Harvard - Institute of Economic Research.
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  40. John Y. Campbell & Robert J. Shiller, 1996. "A Scorecard for Indexed Government Debt," NBER Working Papers 5587, National Bureau of Economic Research, Inc.
  41. John Y. Campbell & Luis Viceira, 2005. "The Term Structure of the Risk-Return Tradeoff," NBER Working Papers 11119, National Bureau of Economic Research, Inc.
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  46. Svensson, Lars E O, 1994. "Estimating and Interpreting Forward Interest Rates: Sweden 1992-4," CEPR Discussion Papers 1051, C.E.P.R. Discussion Papers.
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