The analysis that follows produces some fairly striking results. To begin with, I document the strong negative correlation between price-earnings ratios and expected (as well as actual) inflation. This relationship is shown to be robust to corrections for the distortionary effects of inflation on accounting earnings. Under the present value model, this negative correlation has the following implication: A rise in expected inflation must be associated with either (i) a decline in expected long-run real earnings or (ii) a rise in the long-run real return investors require on stocks, or both
