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Subjective Discounting in an Exchange Economy

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Author Info
Erzo G. J. Luttmer
Thomas Mariotti
Abstract

This paper describes the equilibrium of a discrete-time exchange economy in which consumers with arbitrary subjective discount factors and homothetic period utility functions follow linear Markov consumption and portfolio strategies. Explicit expressions are given for state prices and consumption-wealth ratios. We provide an analytically convenient continuous-time approximation and show how subjective rates of time preference affect risk-free rates but not instantaneous risk-return trade-offs. Hyperbolic discount factors can be a source of return volatility, but they cannot be used to address asset pricing puzzles related to high-frequency Sharpe ratios.

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Article provided by University of Chicago Press in its journal Journal of Political Economy.

Volume (Year): 111 (2003)
Issue (Month): 5 (October)
Pages: 959-989
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Handle: RePEc:ucp:jpolec:v:111:y:2003:i:5:p:959-989

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  2. David Laibson & Leeat Yariv, 2007. "Safety in Markets: An Impossibility Theorem for Dutch Books," Levine's Bibliography 122247000000001746, UCLA Department of Economics. [Downloadable!]
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  3. Geraats, P.M., 2005. "Intertemporal Substitution and Hyperbolic Discounting," Cambridge Working Papers in Economics 0515, Faculty of Economics, University of Cambridge. [Downloadable!]
  4. Gabrieli, Tommaso & Ghosal, Sayantan, 2009. "Non-Existence of Competitive Equilibria with Dynamically Inconsistent Preferences," The Warwick Economics Research Paper Series (TWERPS) 900, University of Warwick, Department of Economics. [Downloadable!]
  5. Rohde,Kirsten I.M., 2005. "A Reason for Sophisticated Investors not to seize Arbitrage Opportunities in Markets without Frictions," Research Memoranda 053, Maastricht : METEOR, Maastricht Research School of Economics of Technology and Organization. [Downloadable!]
  6. Luttmer, Erzo & Mariotti, Thomas, 2004. "Efficiency and Equilibrium when Preferences are Time-Inconsistent," IDEI Working Papers 335, Institut d'Économie Industrielle (IDEI), Toulouse. [Downloadable!]
  7. Herings,P. Jean-Jacques & Rohde,Kirsten I.M., 2004. "On the Completeness of Complete Markets," Research Memoranda 053, Maastricht : METEOR, Maastricht Research School of Economics of Technology and Organization. [Downloadable!]
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  8. P. Herings & Kirsten Rohde, 2006. "Time-inconsistent preferences in a general equilibrium model," Economic Theory, Springer, vol. 29(3), pages 591-619, November. [Downloadable!] (restricted)
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  9. Rohde,Kirsten I.M., 2005. "The Hyperbolic Factor: a Measure of Decreasing Impatience," Research Memoranda 044, Maastricht : METEOR, Maastricht Research School of Economics of Technology and Organization. [Downloadable!]
  10. David Backus & Bryan Routledge & Stanley Zin, 2004. "Exotic Preferences for Macroeconomists," NBER Working Papers 10597, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  11. Larry Karp, 2004. "Non-Constant Discounting in Continuous Time," Department of Agricultural & Resource Economics, UC Berkeley, Working Paper Series 969, Department of Agricultural & Resource Economics, UC Berkeley. [Downloadable!]
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  12. Kirsten Rohde, 2008. "Arbitrage opportunities in frictionless markets with sophisticated investors," Economic Theory, Springer, vol. 34(2), pages 389-393, February. [Downloadable!] (restricted)
  13. Tack Yun & Wooheon Rhee, 2004. "Implications of Quasi-Geometric Discounting on the Observable Sharpe Ratio," Econometric Society 2004 North American Summer Meetings 243, Econometric Society. [Downloadable!]
  14. Lilia Maliar & Serguei Maliar, 2003. "Quasi-Geometric Discounting: A Closed-Form Solution Under The Exponential Utility Function," Working Papers. Serie AD 2003-16, Instituto Valenciano de Investigaciones Económicas, S.A. (Ivie). [Downloadable!]
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