Why have interest rates fallen far below the return on capital?

Abstract

Interest rates have been falling since the mid-1980s while the return on capital has not. In a calibrated OLG model with recursive preferences encompassing many of the “usual suspects” cited in the debate on secular stagnation, we find that lower trend growth accounts for the trends in the US and the euro area real rates. The increase in the risk premia reflects two sets of forces. Bonds have become better hedges for stocks, notably in the euro area, and risk aversion has increased. In our model, changes in labor share, longevity and inequality had negligible effects on interest rates.