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Aggregate Implications of Micro Asset Market Segmentation

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  • Chris Edmond
  • Pierre-Olivier Weill

Abstract

This paper develops a consumption-based asset pricing model to explain and quantify the aggregate implications of a frictional financial system, comprised of many financial markets partially integrated with one-another. Each of our micro financial markets is inhabited by traders who are specialized in that market's type of asset. We specify exogenously the level of segmentation that ultimately determines how much idiosyncratic risk traders bear in their micro market and derive aggregate asset pricing implications. We pick segmentation parameters to match facts about systematic and idiosyncratic return volatility. We find that if the same level of segmentation prevails in every market, traders bear 20% of their idiosyncratic risk. With otherwise standard parameters, this benchmark model delivers an unconditional equity premium of 3.3% annual. We further disaggregate the model by allowing the level of segmentation to differ across markets. This version of the model delivers the same aggregate asset pricing implications but with only half the amount of segmentation: on average traders bear 10% of their idiosyncratic risk.

Suggested Citation

  • Chris Edmond & Pierre-Olivier Weill, 2009. "Aggregate Implications of Micro Asset Market Segmentation," NBER Working Papers 15254, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:15254
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    Cited by:

    1. Edmond, Chris & Weill, Pierre-Olivier, 2012. "Aggregate implications of micro asset market segmentation," Journal of Monetary Economics, Elsevier, vol. 59(4), pages 319-335.
    2. Fernando Alvarez & Francesco Lippi, 2014. "Persistent Liquidity Effects and Long-Run Money Demand," American Economic Journal: Macroeconomics, American Economic Association, vol. 6(2), pages 71-107, April.
    3. Zhiguo He & Arvind Krishnamurthy, 2013. "Intermediary Asset Pricing," American Economic Review, American Economic Association, vol. 103(2), pages 732-770, April.
    4. Andrea L. Eisfeldt & Hanno Lustig & Lei Zhang, 2017. "Complex Asset Markets," NBER Working Papers 23476, National Bureau of Economic Research, Inc.
    5. Iraola, Miguel A. & Sepúlveda, Fabián & Torres-Martínez, Juan Pablo, 2019. "Financial segmentation and collateralized debt in infinite-horizon economies," Journal of Mathematical Economics, Elsevier, vol. 80(C), pages 56-69.

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    More about this item

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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