IDEAS home Printed from https://ideas.repec.org/
MyIDEAS: Log in (now much improved!) to save this paper

On the Size Distribution of Macroeconomic Disasters

Author Info

  • Robert J. Barro
  • Tao Jin

Abstract

The coefficient of relative risk aversion is a key parameter for analyses of behavior toward risk, but good estimates of this parameter do not exist. A promising place for reliable estimation is rare macroeconomic disasters, which have a major influence on the equity premium. The premium depends on the probability and size distribution of disasters, gauged by proportionate declines in per capita consumption or GDP. Long-term national-accounts data for 36 countries provide a large sample of disasters of magnitude 10% or more. A power-law density provides a good fit to the size distribution, and the upper-tail exponent, ?, is estimated to be around 4. A higher ? signifies a thinner tail and, therefore, a lower equity premium, whereas a higher coefficient of relative risk aversion, ?, implies a higher premium. The premium is finite if ? > ?. The observed premium of 5% generates an estimated ? close to 3, with a 95% confidence interval of 2 to 4. The results are robust to uncertainty about the values of the disaster probability and the equity premium and can accommodate seemingly paradoxical situations in which the equity premium may appear to be infinite.

Download Info

If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.

File URL: http://scholar.harvard.edu/tjin/node/115416
Download Restriction: no

Paper provided by Harvard University OpenScholar in its series Working Paper with number 115416.

as
in new window

Length:
Date of creation:
Date of revision:
Handle: RePEc:qsh:wpaper:115416
Contact details of provider: Postal:
1737 Cambridge Street, Cambridge, MA 02138

Phone: 617-496-2450
Fax: 617-496-5149
Web page: http://scholar.harvard.edu

More information through EDIRC

Keywords:

Other versions of this item:

Find related papers by JEL classification:
  • E20 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - General (includes Measurement and Data)
  • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
  • G01 - Financial Economics - - General - - - Financial Crises
  • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

This paper has been announced in the following NEP Reports:

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:

as in new window
  1. Xavier Gabaix & Rustam Ibragimov, 2011. "Rank - 1 / 2: A Simple Way to Improve the OLS Estimation of Tail Exponents," Journal of Business & Economic Statistics, Taylor & Francis Journals, vol. 29(1), pages 24-39, January.
  2. Rietz, Thomas A., 1988. "The equity risk premium a solution," Journal of Monetary Economics, Elsevier, vol. 22(1), pages 117-131, July.
  3. Erzo G. J. Luttmer, 2007. "Selection, Growth, and the Size Distribution of Firms," The Quarterly Journal of Economics, Oxford University Press, vol. 122(3), pages 1103-1144.
  4. Robert J. Barro, 2009. "Rare Disasters, Asset Prices, and Welfare Costs," American Economic Review, American Economic Association, vol. 99(1), pages 243-64, March.
  5. Xavier Gabaix & Augustin Landier, 2006. "Why Has CEO Pay Increased So Much?," 2006 Meeting Papers 518, Society for Economic Dynamics.
  6. Mehra, Rajnish & Prescott, Edward C., 1985. "The equity premium: A puzzle," Journal of Monetary Economics, Elsevier, vol. 15(2), pages 145-161, March.
  7. Xavier Gabaix & Parameswaran Gopikrishnan & Vasiliki Plerou & H. Eugene Stanley, 2006. "Institutional Investors and Stock Market Volatility," The Quarterly Journal of Economics, Oxford University Press, vol. 121(2), pages 461-504.
  8. Martin L. Weitzman, 2007. "Subjective Expectations and Asset-Return Puzzles," American Economic Review, American Economic Association, vol. 97(4), pages 1102-1130, September.
  9. Barro, Robert, 2006. "Rare Disasters and Asset Markets in the Twentieth Century," Scholarly Articles 3208215, Harvard University Department of Economics.
  10. Lucas, Robert E, Jr, 1978. "Asset Prices in an Exchange Economy," Econometrica, Econometric Society, vol. 46(6), pages 1429-45, November.
  11. Jose Ursua & Jon Steinsson & Emi Nakamura & Robert Barro, 2008. "Crises and Recoveries in an Empirical Model of Consumption Disasters," 2008 Meeting Papers 1089, Society for Economic Dynamics.
  12. Xavier Gabaix & Yannis M. Ioannides, 2003. "The Evolution of City Size Distributions," Discussion Papers Series, Department of Economics, Tufts University 0310, Department of Economics, Tufts University.
  13. Epstein, Larry G & Zin, Stanley E, 1989. "Substitution, Risk Aversion, and the Temporal Behavior of Consumption and Asset Returns: A Theoretical Framework," Econometrica, Econometric Society, vol. 57(4), pages 937-69, July.
  14. Philippe Weil, 1990. "Nonexpected Utility in Macroeconomics," The Quarterly Journal of Economics, Oxford University Press, vol. 105(1), pages 29-42.
Full references (including those not matched with items on IDEAS)

Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.

as in new window


Cited by:
This item has more than 25 citations. To prevent cluttering this page, these citations are listed on a separate page.

This item is featured on the following reading lists or Wikipedia pages:

  1. On the Size Distribution of Macroeconomic Disasters (ECTA 2011) in ReplicationWiki

Access and download statistics

When requesting a correction, please mention this item's handle: RePEc:qsh:wpaper:115416. See general information about how to correct material in RePEc.

For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Richard Brandon)

If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

If references are entirely missing, you can add them using this form.

If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

Please note that corrections may take a couple of weeks to filter through the various RePEc services.

This information is provided to you by IDEAS at the Research Division of the Federal Reserve Bank of St. Louis using RePEc data.