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A New Keynesian Model of the Term Structures of Equity and Bond Returns

Author

Listed:
  • Pierlauro Lopez

    (Federal Reserve Bank of Cleveland)

  • Francisco Vázquez-Grande

    (Federal Reserve Board)

  • David López-Salido

    (Banco de España)

Abstract

A simple production economy with nominal price rigidities explains several key asset pricing facts, including the average slopes and cyclicality of equity and interest rate term structures. Nominal rigidities amplify the procyclicality of dividends after negative productivity shocks and generate countercyclical inflation, as sluggish price adjustment leads to a gradual dividend recovery. Consequently, short-duration equities (bonds) have more (less) procyclical payoffs than their long-duration counterparts. Slow-moving consumption habits produce large, countercyclical risk prices, yielding realistic asset valuations. Extending Campbell-Cochrane preferences with both market and home consumption habits allows them to operate in production economies while preserving realistic macroeconomic dynamics.

Suggested Citation

  • Pierlauro Lopez & Francisco Vázquez-Grande & David López-Salido, 2026. "A New Keynesian Model of the Term Structures of Equity and Bond Returns," Working Papers 2635, Banco de España.
    • Handle: RePEc:bde:wpaper:2635e
    DOI: https://doi.org/10.53479/44565
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    Keywords

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    JEL classification:

    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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