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Equity Premiums In a Small Open Economy

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  • Douch, Mohamed

Abstract

This paper studies the behaviour of asset prices in relation to consumption and other business cycle variables. While RBC models have been able to successfully explain the dynamics of macroeconomic variables, they fail to replicate similar interesting stylized facts when studying the behavior of asset prices. In an attempt to solve this shortcoming, some progress has been made in models that modify utility in order to account for habit persistence and incorporate capital adjustment costs. We have developed a framework that combines these ingredients by applying the loglinearly reduced form of the general equilibrium model and the asset pricing formula, based on the lognormality of the disturbance distribution for the small open economy case. Our ndings indicate that in a small open economy environment this kind of model fails to account for a substantial equity premium.

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Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 876.

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Date of creation: Jun 2004
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Handle: RePEc:pra:mprapa:876

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Keywords: Equity premium; habit formation; small open economy;

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  1. Boldrin, M. & Christiano, L.J. & Fisher, J.D.M., 1995. "Asset Pricing Lessons for Modeling Business Cycles," UWO Department of Economics Working Papers, University of Western Ontario, Department of Economics 9513, University of Western Ontario, Department of Economics.
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  3. McCallum, Bennett T & Nelson, Edward, 2000. "Monetary Policy for an Open Economy: An Alternative Framework with Optimizing Agents and Sticky Prices," Oxford Review of Economic Policy, Oxford University Press, Oxford University Press, vol. 16(4), pages 74-91, Winter.
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  7. Jean-Pierre DANTHINE & John B. DONALDSON & Rajnish MEHRA, 1992. "The Equity Premium and the Allocation of Income Risk," Cahiers de Recherches Economiques du Département d'Econométrie et d'Economie politique (DEEP), Université de Lausanne, Faculté des HEC, DEEP 9203, Université de Lausanne, Faculté des HEC, DEEP.
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Cited by:
  1. Douch, Mohamed & Bouaddi, Mohammed, 2010. "EQUITY Premium Puzzle in a Data-Rich Environment," MPRA Paper 29440, University Library of Munich, Germany.

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