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Political Uncertainty and Risk Premia

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  • Lubos Pastor

    ()
    (University of Chicago - Booth School of Business)

  • Pietro Veronesi

    ()
    (University of Chicago - Booth School of Business)

Abstract

We analyze how changes in government policy affect stock prices. Our general equilibrium model features uncertainty about government policy and a government that has both economic and non-economic motives. The government tends to change its policy after performance downturns in the private sector. Stock prices fall at the announcements of policy changes, on average. The price fall is expected to be large if uncertainty about government policy is large, as well as if the policy change is preceded by a short or shallow downturn. Policy changes increase volatility, risk premia, and correlations among stocks. The jump risk premium associated with policy decisions is positive, on average.

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File URL: http://bfi.uchicago.edu/RePEc/bfi/wpaper/BFI_2011-007.pdf
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Bibliographic Info

Paper provided by Becker Friedman Institute for Research In Economics in its series Working Papers with number 2011-007.

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Date of creation: Sep 2011
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Handle: RePEc:bfi:wpaper:2011-007

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Citations

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Cited by:
  1. Scott R. Baker & Nicholas Bloom & Steven J. Davis, 2012. "Has Economic Policy Uncertainty Hampered the Recovery?," Working Papers 2012-003, Becker Friedman Institute for Research In Economics.
  2. Nikolaos Antonakakis & Ioannis Chatziantoniou & George Filis, 2014. "Dynamic Spillovers of Oil Price Shocks and Policy Uncertainty," Department of Economics Working Papers wuwp166, Vienna University of Economics, Department of Economics.
  3. Brandon Julio & Youngsuk Yook, 2013. "Policy uncertainty, irreversibility, and cross-border flows of capital," Finance and Economics Discussion Series 2013-64, Board of Governors of the Federal Reserve System (U.S.).
  4. Bryan Kelly & Lubos Pastor & Pietro Veronesi, 2014. "The Price of Political Uncertainty: Theory and Evidence from the Option Market," NBER Working Papers 19812, National Bureau of Economic Research, Inc.
  5. Croce, Mariano M. & Nguyen, Thien T. & Schmid, Lukas, 2012. "The market price of fiscal uncertainty," Journal of Monetary Economics, Elsevier, vol. 59(5), pages 401-416.
  6. Tsangyao Chang & Wen-Yi Chen & Rangan Gupta & Duc Khuong Nguyen, 2013. "Are Stock Prices Related to Political Uncertainty Index in OECD Countries? Evidence from Bootstrap Panel Causality Test," Working Papers 2013-036, Department of Research, Ipag Business School.
  7. Belo, Frederico & Gala, Vito D. & Li, Jun, 2013. "Government spending, political cycles, and the cross section of stock returns," Journal of Financial Economics, Elsevier, vol. 107(2), pages 305-324.
  8. Xiao-lin Li & Mehmet Balcilar & Rangan Gupta & Tsangyao Chang, 2013. "The Causal Relationship between Economic Policy Uncertainty and Stock Returns in China and India: Evidence from a Bootstrap Rolling-Window Approach," Working Papers 201345, University of Pretoria, Department of Economics.

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