Endogenous Economic Disasters and Asset Prices
Frictions in the labor market are important for understanding the equity premium in the financial market. We embed the Diamond-Mortensen-Pissarides search framework into a dynamic stochastic general equilibrium model with recursive preferences. The model produces realistic equity premium and stock market volatility, as well as a low and stable interest rate. The equity premium is countercyclical, and forecastable with labor market tightness, a pattern we confirm in the data. Intriguingly, three key ingredients (small profits, large job flows, and matching frictions) in the model combine to give rise endogenously to rare disasters a la Rietz (1988) and Barro (2006).
Year of publication: |
2014
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Authors: | Zhang, Lu ; Kuehn, Lars-Alexander ; Petrosky-Nadeau, Nicolas |
Institutions: | Society for Economic Dynamics - SED |
Saved in:
freely available
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