The Ban on Indexed Bonds, 1933-77
Abstract
a recent article in this Review, Nissan Liviatan and David Levhari attempt to explain the phenomenon that In spite of recent marked inflationary trends the important capital markets have not developed a significant (private enterprise) market for [cost-of-living] linked (p. 366). They note that the familiar theoretical complete dominance of indexed bonds over nonindexed bonds holds unambiguously only in an economy in which there are no nominal assets. They demonstrate that borrowers may in theory insist on hedging the inflation risk on their nonindexed cash balances by issuing some nonindexed bonds at a discount that makes them attractive in spite of the risk they impose on lenders. Their model leads them to conclude that indexed bonds might not completely dominate nonindexed bonds. However, they do not claim that their model explains the phenomenon they set out to explain: Why is it that the free market, to use their expression, has come up with virtually no indexed bonds at all? Fortunately, a simple explanation for the nonexistence of indexed bonds in the United States was provided, two years
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