Aggregate Asset Pricing with Labor Market Frictions
AbstractEven though labor income represents about two thirds of disposal income to household, its role has largely been neglected by asset pricing models. In this paper, we solve a general equilibrium model which can both rationalize important feature of labor markets as well as financial markets. To this end, we embed labor market search frictions into a business cycle model where the representative household has recursive Epstein-Zin preferences. We find that the model is consistent with the cyclical behavior of the unemployment rate. The model also replicates the volatility of labor market tightness seen in the data. Crucially, for asset prices, aggregate employment and output react progressively to innovations and the model delivers a high degree of persistence in the growth rate of aggregate output and consumption. This endogenous persistence in combination with recursive Epstein-Zin preferences increase the equity risk premium considerably.
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Bibliographic InfoPaper provided by Society for Economic Dynamics in its series 2010 Meeting Papers with number 904.
Date of creation: 2010
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Postal: Society for Economic Dynamics Christian Zimmermann Economic Research Federal Reserve Bank of St. Louis PO Box 442 St. Louis MO 63166-0442 USA
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