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Are Asset Returns Predictable from the National Accounts?

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Author Info
Pierre Lafourcade
Abstract

Rational expectations and the logic of budget constraints imply that the predictability of asset returns hinges on the stability and persistence of households' ratio of saving to asset wealth, not of consumption to total wealth. This misalignment undermines the rationale for Lettau and Ludvigson's estimated cay, a stationary but unduly loose approximation to the true but non-mean-reverting cay. Definitional considerations on saving, assets and returns suggest rehabilitating money in the households'  flow of funds identity. Accounting for money balances in cay restores stationarity, but at the cost of drastically lower persistence and predictive potential. 

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Paper provided by Netherlands Central Bank, Research Department in its series DNB Working Papers with number 189.

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Date of creation: Dec 2008
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Handle: RePEc:dnb:dnbwpp:189

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Find related papers by JEL classification:
E01 - Macroeconomics and Monetary Economics - - General - - - Measurement and Data on National Income and Product Accounts and Wealth
E21 - Macroeconomics and Monetary Economics - - Macroeconomics: Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
E41 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Demand for Money

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  1. Whelan, Karl, 2008. "Consumption and expected asset returns without assumptions about unobservables," Journal of Monetary Economics, Elsevier, vol. 55(7), pages 1209-1221, October. [Downloadable!] (restricted)
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  2. John Y. Campbell & N. Gregory Mankiw, 1989. "Consumption, Income and Interest Rates: Reinterpreting the Time Series Evidence," NBER Chapters, in: NBER Macroeconomics Annual 1989, Volume 4, pages 185-246 National Bureau of Economic Research, Inc. [Downloadable!]
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  3. Palumbo, Michael & Rudd, Jeremy & Whelan, Karl, 2002. "On the Relationships Between Real Consumption, Income, and Wealth," Research Technical Papers 4/RT/02, Central Bank & Financial Services Authority of Ireland (CBFSAI). [Downloadable!]
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  4. Sydney Ludvigson & Martin Lettau, 1999. "Consumption, aggregate wealth and expected stock returns," Staff Reports 77, Federal Reserve Bank of New York. [Downloadable!]
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  5. Martin Lettau, 2001. "Consumption, Aggregate Wealth, and Expected Stock Returns," Journal of Finance, American Finance Association, vol. 56(3), pages 815-849, 06. [Downloadable!] (restricted)
  6. Martin Lettau & Sydney Ludvigson, 2003. "Understanding Trend and Cycle in Asset Values: Reevaluating the Wealth Effect on Consumption," NBER Working Papers 9848, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  7. Jeremy Rudd & Karl Whelan, 2006. "Empirical Proxies for the Consumption-Wealth Ratio," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 9(1), pages 34-51, January. [Downloadable!] (restricted)
  8. Gonzalo, Jesus & Ng, Serena, 2001. "A systematic framework for analyzing the dynamic effects of permanent and transitory shocks," Journal of Economic Dynamics and Control, Elsevier, vol. 25(10), pages 1527-1546, October. [Downloadable!] (restricted)
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