Working Paper: NBER ID: w14788
Authors: Jason Beeler; John Y. Campbell
Abstract: The long-run risks model of asset prices explains stock price variation as a response to persistent fluctuations in the mean and volatility of aggregate consumption growth, by a representative agent with a high elasticity of intertemporal substitution. This paper documents several empirical difficulties for the model as calibrated by Bansal and Yaron (BY, 2004) and Bansal, Kiku, and Yaron (BKY, 2007a). BY's calibration counterfactually implies that long-run consumption and dividend growth should be highly persistent and predictable from stock prices. BKY's calibration does better in this respect by greatly increasing the persistence of volatility fluctuations and their impact on stock prices. This calibration fits the predictive power of stock prices for future consumption volatility, but implies much greater predictive power of stock prices for future stock return volatility than is found in the data. Neither calibration can explain why movements in real interest rates do not generate strong predictable movements in consumption growth. Finally, the long-run risks model implies extremely low yields and negative term premia on inflation-indexed bonds.
Keywords: long-run risks; asset pricing; consumption growth; volatility
JEL Codes: E21; G12
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Consumption Growth (F62) | Stock Prices (G19) |
| Volatility Fluctuations + Consumption Growth (E32) | Stock Prices (G19) |
| Real Interest Rates (E43) | Consumption Growth (F62) |
| Stock Prices (G19) | Consumption Growth (F62) |