• E32;
  • E44;
  • G12;
  • term structure;
  • habit formation;
  • dynamic stochastic general equilibrium;
  • Bayesian estimation

New Keynesian model in which households have Epstein–Zin preferences with time-varying risk aversion and the central bank has a time-varying inflation target can match the dynamics of nominal bond prices in the U.S. economy well. The model generates a large steady-state term spread and its fitting errors for bond yields are comparable to those obtained from a nonstructural three-factor model, and one-third smaller than in models with a constant inflation target or risk aversion. Including data on interest rates has large effects on variance decompositions, making investment technology shocks much less important than found in other recent papers.