What Fisher Knew About His Relation, We Sometimes Forget

Abstract

Expected consumption growth increases the real interest rate as one tries to smooth consumption over time. We demonstrate that placing it in the Fisher relation 1) is consistent with the Euler equation governing the purchase of nominal bonds, 2) explains observed procyclicality of the real interest rate. 3) is supported empirically, and 4) provides an alternative method for estimating the consumer's degree of relative risk aversion. (C) 2008 Elsevier B.V. All rights reserved.