Volatility, the Macroeconomy and Asset Prices

How important are volatility fluctuations for asset prices and the macroeconomy? We find that a rise in macroeconomic volatility is associated with a rise in discount rates and a decline in consumption. To study the impact of volatility we provide a framework in which cashflow, discount-rate, and volatility risks determine risk premia. We show that volatility plays a significant role in jointly accounting for returns to human capital and equity. Volatility risks carry a sizeable positive risk premium and help explain the cross-section of expected returns. Our evidence shows that volatility is important for understanding expected returns and macroeconomic fluctuations