Wage Rigidity: A Quantitative Solution to Several Asset Pricing Puzzles
London School of Economics & Political Science (LSE)
Ohio State University (OSU) - Fisher College of Business
May 15, 2014
Fisher College of Business Working Paper No. 2012-03-016
Charles A. Dice Center Working Paper No. 2012-16
In standard production models wage volatility is far too high and equity volatility is far too low. A simple modification - sticky wages due to infrequent resetting - allows us to match both the (i) smoother wages and (ii) high equity volatility. Furthermore, the model produces several other hard to explain features of financial data: (iii) high Sharpe Ratios, (iv) low and smooth interest rates, (v) time-varying equity volatility and premium, (vi) a value premium, and (vii) a downward sloping equity term structure. Pro-cyclical, volatile wages are a hedge for firms in standard models, smoother wages act like operating leverage, making profits and dividends more risky.
Number of Pages in PDF File: 73
Keywords: Wage Rigidity, Equity Volatility, Equity Premium, General Equilibrium, Production-Based Asset Pricing, Value Premium
JEL Classification: E21, E23, E32, E44, G12working papers series
Date posted: September 5, 2012 ; Last revised: May 22, 2014
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