On expectations,term premiums and the volatility of long-term interest rates

Shiller has shown that the variance of the holding-period yield on long-term bonds may frequently exceed a bound implied by the rational expectations model of the term structure. This paper extends Shiller's variance inequality to allow for the possible presence of time-varying term premiums. The paper then explores the question of whether term premiums, or perhaps transactions costs, are likely to reverse prior findings of excess volatility.