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Equity Premium and Consumption Sensitivity When the Consumer- Investor Allows for Unfavorable Circumstances

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  • Gregory C. Chow

    (Princeton University)

Abstract

Introducing one additional element due to possible misfortune to the return of each of two assets in the basic model of Samuelson (Rev.Econom.Statist.51 (1969)239)on optimum portfolio and consumption decisions,this paper resolves both the excess equity premium and the excess consumption sensitivity puzzles.This uni ed treatment provides a framework to study how important state variables will a ect the change in aggregate consumption which is consid- ered unpredictable in one formulation of the permanent income hypothesis.The implications of the theory agree with empirical results reported here and elsewhere.The theoretical framework appears to be simple and powerful as compared with alternative theories to explain the two puzzles.

Suggested Citation

  • Gregory C. Chow, 2003. "Equity Premium and Consumption Sensitivity When the Consumer- Investor Allows for Unfavorable Circumstances," Macroeconomics 0306012, University Library of Munich, Germany.
    • Handle: RePEc:wpa:wuwpma:0306012
    Note: Published in Journal of Economic Dynamics &Control 26 (2002) pp 1417-–1429
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    References listed on IDEAS

    as
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    Full references (including those not matched with items on IDEAS)

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    More about this item

    Keywords

    Optimum consumption and investment; Asset pricing; Consumption sensitivity; Robust control; The Lagrange method;
    All these keywords.

    JEL classification:

    • E - Macroeconomics and Monetary Economics

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