Rational Learning and Term Structures

Abstract

We study the impact of information processing and rational learning on the term structures of equity risk, risk premia, and bond yields. In contrast with the full information economy, learning yields an upward-sloping term structure of bond yields and downward-sloping term structures of equity risk and risk premia. Moreover, learning yields lower interest rates and a larger risk premium than in an otherwise identical economy with full information. Therefore, information processing and learning help explain jointly the observed level and timing of both equity return moments and interest rates. Economic growth forecast data lends support to our model of learning.