Has the real rate of return “depreciated”?

The average depreciation rate in the United States has increased since the 1970s, a pattern most likely matched in other advanced economies. We argue that a higher depreciation rate has reduced the risk-free interest rate. We do so in a quantitative overlapping-generations model which allows for risk-premia and market power. We show that the importance of the rate of depreciation on the risk-free interest rate depends crucially on the elasticity of intertemporal substitution as well as the size of market power. Our calibrated model shows that higher depreciation plausibly reduced the risk-free rate by 30 basis points over the past half century. We contrast our results with models using a representative-agent framework (Farhi and Gourio in Accounting for macro-finance trends: market power, intangibles, and risk premia. Brookings papers on economic activity, 147, 2019) which typically do not find a role for the rate of depreciation.