Data Management

The Irrelevance Of Market Incompleteness For The Price Of Aggregate Risk

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Executive Summary

In a standard incomplete markets model with a continuum of households that have Constant Relative Risk Aversion (CRRA) preferences, the absence of insurance markets for idiosyncratic labor income risk has no effect on the premium for aggregate risk if the distribution of idiosyncratic risk is independent of aggregate shocks and aggregate consumption growth is independent over time. In the equilibrium, which features trade and binding solvency constraints, as opposed to Constantinides and Duffie (1996), households only use the stock market to smooth consumption; the bond market is inoperative.

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