IDEAS home Printed from https://ideas.repec.org/p/spo/wpmain/infohdl2441-8644.html
   My bibliography  Save this paper

Approximate Equilibrium Asset Prices

Author

Listed:
  • Fernando Restoy
  • Philippe Weil

Abstract

This paper reconsiders the determination of asset returns in a model with Kreps-Porteus generalized isoelastic preferences where returns appear governed on the basis of Euler equations, by a combination of the two most common measures of risk -- covariance with the market return and covariance with consumption. To go beyond Euler equations and to take into account the links that the consumers' optimal behavior establishes, through a budge connstraint, between market returns and consumption, we derive an approximate consumption function (obtained, as in Campbell (1994), by log-linear approximation). Arguing that total consumer wealth is unobservable, we use this consumption function to reconstruct from observed consumption data i) the wealth that supports the agents' consumption optimal income, and ii) the rate of retun on the consumers' wealth portfolio. This procedure enables us to derive formulas that (approximately) price, in the tradition of Lucas (1978), all assets as a function of their payoffs and of consumption. The generalized consumption CAPM that we obtain is derived for both homoskedastic and heteroskedastic consumption processes. We also use our approximate pricing kernel to highlight the crucial role of temporal risk aversion in the determination of the equilibrium term structure of real interest rates.

Suggested Citation

  • Fernando Restoy & Philippe Weil, 1998. "Approximate Equilibrium Asset Prices," Sciences Po publications 6611, Sciences Po.
  • Handle: RePEc:spo:wpmain:info:hdl:2441/8644
    as

    Download full text from publisher

    File URL: http://spire.sciencespo.fr/hdl:/2441/8644/resources/w6611.pdf
    Download Restriction: no

    Other versions of this item:

    References listed on IDEAS

    as
    1. Mehra, Rajnish & Prescott, Edward C., 1985. "The equity premium: A puzzle," Journal of Monetary Economics, Elsevier, vol. 15(2), pages 145-161, March.
    2. Kocherlakota, Narayana R, 1990. " Disentangling the Coefficient of Relative Risk Aversion from the Elasticity of Intertemporal Substitution: An Irrelevance Result," Journal of Finance, American Finance Association, vol. 45(1), pages 175-190, March.
    3. Philippe Weil, 1989. "The Equity Premium Puzzle and the Riskfree Rate Puzzle," Sciences Po publications info:hdl:2441/8686, Sciences Po.
    4. Campbell, John Y, 1996. "Understanding Risk and Return," Journal of Political Economy, University of Chicago Press, vol. 104(2), pages 298-345, April.
    5. Weil, Philippe, 1989. "The equity premium puzzle and the risk-free rate puzzle," Journal of Monetary Economics, Elsevier, vol. 24(3), pages 401-421, November.
    6. Alberto Giovannini & Philippe Weil, 1989. "Risk Aversion and Intertemporal Substitution in the Capital Asset Pricing Model," NBER Working Papers 2824, National Bureau of Economic Research, Inc.
    7. Dreze, Jacques H. & Modigliani, Franco, 1972. "Consumption decisions under uncertainty," Journal of Economic Theory, Elsevier, vol. 5(3), pages 308-335, December.
    8. Lucas, Robert E, Jr, 1978. "Asset Prices in an Exchange Economy," Econometrica, Econometric Society, vol. 46(6), pages 1429-1445, November.
    9. John W. Kendrick, 1976. "The Formation and Stocks of Total Capital," NBER Books, National Bureau of Economic Research, Inc, number kend76-1, July.
    Full references (including those not matched with items on IDEAS)

    More about this item

    JEL classification:

    • E2 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment
    • G0 - Financial Economics - - General

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:spo:wpmain:info:hdl:2441/8644. 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: (Spire @ Sciences Po Library). General contact details of provider: http://edirc.repec.org/data/ecspofr.html .

    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 CitEc recognized a reference but did not link an item in RePEc 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 RePEc Author Service 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.

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.