Imperial College London
Institutional Affiliations: Imperial College Business School and CEPR
Information about this author at RePEc
NBER Working Papers and Publications
|November 2018||Low Inflation: High Default Risk AND High Equity Valuations|
with Christian Dorion, Alexandre Jeanneret, Michael Weber: w25317
We develop an asset-pricing model with endogenous corporate policies that explains how inflation jointly impacts real asset prices and corporate default risk. Our model includes two empirically grounded nominal frictions: fixed nominal coupons and sticky profitability. Taken together, these two frictions result in higher real equity prices and credit spreads when inflation falls. An increase in inflation has opposite effects, but with smaller magnitudes. In the cross section, the model predicts the negative impact of inflation on real equity values is stronger for low leverage firms. We find empirical support for the model predictions.