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Consumption Smoothing and the Equity Premium

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  • Benjamin Eden

    ()
    (Department of Economics, Vanderbilt University)

Abstract

The paper investigates the role of the Intertemporal Elasticity of Substitution () in determining the equity premium. This is done in an overlapping generations economy populated by agents that live for 2 periods and maximize a Kihlstrom-Mirman expected utility function. The equity premium depends both on the demand for smoothing as measured by the inverse of and on risk aversion but the first seems to play a more important role. The paper also attempts to understand the difference between the predictions of a 2 periods Kihlstrom-Mirman expected utility and the predictions of a 2 periods Epstein-Zin-Weil utility.

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File URL: http://www.accessecon.com/pubs/VUECON/vu10-w11.pdf
File Function: First version, November 2010
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Bibliographic Info

Paper provided by Vanderbilt University Department of Economics in its series Vanderbilt University Department of Economics Working Papers with number 1011.

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Date of creation: Nov 2010
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Handle: RePEc:van:wpaper:1011

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Web page: http://www.vanderbilt.edu/econ/wparchive/index.html

Related research

Keywords: Fluctuations Aversion; Risk Aversion; Asset Prices; Equity Premium Puzzle; Risk Free Rate Puzzle;

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  1. Eden, Benjamin, 1977. "The role of insurance and gambling in allocating risk over time," Journal of Economic Theory, Elsevier, Elsevier, vol. 16(2), pages 228-246, December.
  2. Beaudry, Paul & van Wincoop, Eric, 1996. "The Intertemporal Elasticity of Substitution: An Exploration Using a US Panel of State Data," Economica, London School of Economics and Political Science, London School of Economics and Political Science, vol. 63(251), pages 495-512, August.
  3. Kihlstrom, Richard E. & Mirman, Leonard J., 1974. "Risk aversion with many commodities," Journal of Economic Theory, Elsevier, Elsevier, vol. 8(3), pages 361-388, July.
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