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An Estimation of Economic Models with Recursive Preferences

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Author Info

  • Sydney Ludvigson

    (NYU)

  • Jack Favalukus

    (NYU)

  • Xiaohong Chen

    (NYU)

Abstract

This paper presents estimates of key preference parameters of the Epstein and Zin (1989, 1991) and Weil (1989) (EZW) recursive utility model, evaluates the model's ability to fit asset return data relative to other asset pricing models, and investigates the implications of such estimates for the unobservable aggregate wealth return. Our empirical results indicate that the estimated relative risk aversion parameter is high, ranging from 17-60, with higher values for aggregate consumption than for stockholder consumption, while the estimated elasticity of intertemporal substitution is above one. In addition, the estimated model-implied aggregate wealth return is found to be weakly correlated with the CRSP value-weighted stock market return, suggesting that the return to human wealth is negatively correlated with the aggregate stock market return. In quarterly data from 1952 to 2005, we find that an SMD estimated EZW recursive utility model can explain a cross-section of size and book-market sorted portfolio equity returns better than the standard consumption-based model based on power utility and better than the Lettau and ludvigson (2001) cay-scaled consumption CAPM model, but not as well as the Fama and french 1993 three-factor model with financial returns as risk factors.

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Bibliographic Info

Paper provided by Society for Economic Dynamics in its series 2007 Meeting Papers with number 543.

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Date of creation: 2007
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Handle: RePEc:red:sed007:543

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  1. Ai, Chunrong & Chen, Xiaohong, 2007. "Estimation of possibly misspecified semiparametric conditional moment restriction models with different conditioning variables," Journal of Econometrics, Elsevier, vol. 141(1), pages 5-43, November.
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  1. About very large risk aversion estimates
    by Economic Logician in Economic Logic on 2011-08-05 14:59:00
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Cited by:
  1. Schneider, Maik T. & Traeger, Christian P. & Winkler, Ralph, 2012. "Trading off generations: Equity, discounting, and climate change," European Economic Review, Elsevier, vol. 56(8), pages 1621-1644.

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