Measuring the cost of economic fluctuations with preferences that rationalize the equity premium
AbstractLucas (2003) argues that the potential welfare gains from stabilizing the business cycle are small. In fact, he shows that the benefits of eliminating all economic fluctuations are small, especially when compared with the potential gains from other reforms. His estimates are obtained using standard preferences. I show that a model consistent with observed data on asset returns leads to very different conclusions. Calibrating preferences to observed asset market data raises the estimated welfare gains from completely eliminating aggregate fluctuations by approximately two orders of magnitude. Most of the gains, however, come from the elimination of low-frequency contributions.
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Bibliographic InfoArticle provided by Canadian Economics Association in its journal Canadian Journal of Economics.
Volume (Year): 43 (2010)
Issue (Month): 2 (May)
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Other versions of this item:
- Angelo Melino, 2006. "Measuring the Cost of Economic Fluctuations with Preferences that Rationalize the Equity Premium," Working Papers tecipa-256, University of Toronto, Department of Economics.
- E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
- E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination
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