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Search Frictions and Asset Price Volatility

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  • B. Ravikumar
  • Enchuan Shao

Abstract

We examine the quantitative effect of search frictions in product markets on asset price volatility. We combine several features from Shi (1997) and Lagos and Wright (2002) in a model without money. Households prefer special goods and general goods. Special goods can be obtained only via a search in decentralized markets. General goods can be obtained via trade in centralized competitive markets and via ownership of an asset. There is only one asset in our model that yields general goods. The asset is also used as a medium of exchange in the decentralized market to obtain the special goods. The value of the asset in facilitating transactions in the decentralized market is determined endogenously. This transaction role makes the asset pricing implications of our model different from those in the standard asset pricing model. Our model not only delivers the observed average rate of return on equity and the volatility of the equity price, but also accounts for most of the spectral characteristics of the equity price.

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Bibliographic Info

Paper provided by Bank of Canada in its series Working Papers with number 10-1.

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Length: 25 pages
Date of creation: 2010
Date of revision:
Handle: RePEc:bca:bocawp:10-1

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Keywords: Financial markets; Market structure and pricing;

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  1. Phillippe Weil, 1997. "The Equity Premium Puzzle and the Risk-Free Rate Puzzle," Levine's Working Paper Archive 1833, David K. Levine.
  2. LeRoy, Stephen F & Porter, Richard D, 1981. "The Present-Value Relation: Tests Based on Implied Variance Bounds," Econometrica, Econometric Society, vol. 49(3), pages 555-74, May.
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Blog mentions

As found by EconAcademics.org, the blog aggregator for Economics research:
  1. Search Frictions and Asset Price Volatility
    by Christian Zimmermann in NEP-DGE blog on 2010-01-18 05:02:28
Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
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Cited by:
  1. Williamson, Stephen D. & Wright, Randall, 2010. "New Monetarist Economics: Methods," MPRA Paper 21486, University Library of Munich, Germany.
  2. Rocheteau, Guillaume & Wright, Randall, 2013. "Liquidity and asset-market dynamics," Journal of Monetary Economics, Elsevier, vol. 60(2), pages 275-294.
  3. Stephen D. Williamson & Randall Wright, 2010. "New Monetarist Economics: models," Staff Report 443, Federal Reserve Bank of Minneapolis.
  4. Jacquet, Nicolas L. & Tan, Serene, 2012. "Money and asset prices with uninsurable risks," Journal of Monetary Economics, Elsevier, vol. 59(8), pages 784-797.
  5. Ricardo Lagos, 2006. "Asset prices and liquidity in an exchange economy," Staff Report 373, Federal Reserve Bank of Minneapolis.
  6. David M. Arseneau & Sanjay K. Chugh, 2008. "Optimal fiscal and monetary policy in customer markets," International Finance Discussion Papers 919, Board of Governors of the Federal Reserve System (U.S.).
  7. Ricardo Lagos, 2009. "Asset Prices, Liquidity, and Monetary Policy in an Exchange Economy," 2009 Meeting Papers 390, Society for Economic Dynamics.
  8. Rocheteau, Guillaume, 2011. "Payments and liquidity under adverse selection," Journal of Monetary Economics, Elsevier, vol. 58(3), pages 191-205.

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