Working Paper: NBER ID: w25317
Authors: Harjoat S. Bhamra; Christian Dorion; Alexandre Jeanneret; Michael Weber
Abstract: 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.
Keywords: Asset Pricing; Inflation; Default Risk; Equity Valuation
JEL Codes: E44; G12; G32; G33
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| lower expected inflation (E31) | higher equity valuations (G12) |
| lower expected inflation (E31) | increase in default risk (G33) |
| expected inflation (E31) | sensitivity of equity valuation to inflation changes (E31) |
| leverage (G24) | sensitivity of equity valuation to inflation changes (E31) |