Growth-Rate and Uncertainty Shocks in Consumption: Cross-Country Evidence

We provide new estimates of the importance of long-run risks—persistent shocks to growth rates and uncertainty—based on a panel of long-term aggregate consumption data for developed countries. An advantage of our estimation approach, based on macroeconomic data alone, is that the parameter estimates cannot be viewed as "backward engineered" to fit asset pricing data. We find evidence for substantial shocks to growth rates and volatility—the key features of the model. The shocks to volatility and growth rates correspond to well-known episodes such as the Great Moderation and the productivity slowdown of the 1970's. Our estimates yield an improved fit to the asset pricing data along several dimensions. They yield greater return predictability and a more volatile price-dividend ratio than earlier estimates. In addition, we can explain a substantial fraction of cross-country variation in the equity premium. We provide intuition for our results using the recently developed framework of shock-exposure and shock-price elasticities.