Because we conduct policy in real time, our attention is often drawn to movements in risk premiums as they occur, especially if they appear to deviate from long-established patterns. Thus, we try first of all to develop a good understanding of the historical behavior of risk premiums.
The top panel of the exhibit that I have passed around shows crude estimates, put together by the Board's staff, of the risk premium on both equities and corporate bonds going back to 1920. The equity risk premium is constructed by subtracting the real Aaa corporate yield from the ratio of trend earnings to prices as a measure of expected equity returns.