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Asset pricing with free entry and exit of firms

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  • Kaszab, Lorant
  • Marsal, Ales
  • Rabitsch, Katrin

Abstract

We study the asset-pricing implications of changes in the variety of consumption goods which happens through free entry and exit of firms. Fluctuations in varieties drive a wedge between the measured and model-based (including variety growth) consumer price index making the pricing kernel as well as asset prices more volatile without driving up the volatility of consumption growth. Different from earlier endowment economy models of variety growth our model contains production which (i) generates the correlations important for the explanation of the high mean and volatility of equity premium endogenously, and (ii) leads to an increase of about 140 basis points in the risk-premia relative to the endowment model.

Suggested Citation

  • Kaszab, Lorant & Marsal, Ales & Rabitsch, Katrin, 2022. "Asset pricing with free entry and exit of firms," Economics Letters, Elsevier, vol. 217(C).
    • Handle: RePEc:eee:ecolet:v:217:y:2022:i:c:s0165176522002087
    DOI: 10.1016/j.econlet.2022.110648
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    References listed on IDEAS

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    1. Florin O. Bilbiie & Fabio Ghironi & Marc J. Melitz, 2012. "Endogenous Entry, Product Variety, and Business Cycles," Journal of Political Economy, University of Chicago Press, vol. 120(2), pages 304-345.
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    3. Donadelli, Michael & Grüning, Patrick, 2016. "Labor market dynamics, endogenous growth, and asset prices," Economics Letters, Elsevier, vol. 143(C), pages 32-37.
    4. Massimiliano Croce, Mariano, 2014. "Long-run productivity risk: A new hope for production-based asset pricing?," Journal of Monetary Economics, Elsevier, vol. 66(C), pages 13-31.
    5. Greenwood, Jeremy & Hercowitz, Zvi & Huffman, Gregory W, 1988. "Investment, Capacity Utilization, and the Real Business Cycle," American Economic Review, American Economic Association, vol. 78(3), pages 402-417, June.
    6. Florin O. Bilbiie, 2021. "Monetary Neutrality with Sticky Prices and Free Entry," The Review of Economics and Statistics, MIT Press, vol. 103(3), pages 492-504, July.
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    More about this item

    Keywords

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    JEL classification:

    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E60 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - General
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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