Standard business cycle models with state-additive preferences, while broadly consistent with the behavior of real macroeconomic aggregates, are unable to generate asymmetries between expansions and recessions, and are also inconsistent with the behavior of asset prices. In this paper we exploit the potential of non-additivity in preferences to address these facts. In particular, we use Routledge and Zin's (2004) generalization of Gul's (1991) notion of disappointment aversion. The key feature of Routledge and Zin's preferences is that disappointment occurs away from certainty potentially generating counter-cyclical risk aversion. We introduce disappointment aversion in the standard RBC model and ask whether it is able to simultaneously account for business cycle asymmetries between recessions and expansions and asset pricing facts, while still being consistent with the standard business cycle facts
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Paper provided by Society for Economic Dynamics in its series 2006 Meeting Papers with number
24.
Length: Date of creation: 03 Dec 2006 Date of revision: Handle: RePEc:red:sed006:24
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