The Dynamics of Crises and the Equity Premium
Abstract
It is a major challenge for asset pricing models to generate a high equity premium and a low risk-free rate while imposing realistic consumption dynamics. To address this issue, our paper proposes a novel pricing channel: we allow for consumption drops that can spark an economic crisis. This new feature generates a large equity premium even if possible consumption drops are of moderate size. In turn, our model also matches the consumption data of 42 countries along several dimensions. In particular, our approach generates a realistic number of crises that have realistic durations and involve clustering of moderate consumption drops.
Keywords
Contagion; General Equilibrium; Asset Pricing
Cite as
Branger, N., Kraft, H., & Meinerding, C. (2016). The Dynamics of Crises and the Equity Premium. Review of Financial Studies, 29(1), 232–270.Details
Publication type
Research article (journal)
Peer reviewed
Yes
Publication status
Published
Year
2016
Journal
Review of Financial Studies
Volume
29
Issue
1
Start page
232
End page
270
Language
English
ISSN
0893-9454
DOI
Full text