Abstract

http://ssrn.com/abstract=7722
 
 

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Evaluating the Effects of Incomplete Markets on Risk Sharing and Asset Pricing


John Heaton


University of Chicago - Finance

Deborah J. Lucas


Northwestern University - Kellogg School of Management; National Bureau of Economic Research (NBER)


J. OF POLITICAL ECONOMY, Vol. 104 No. 3, June 1996

Abstract:     
We examine an economy with aggregate and idiosyncratic income risk in which agents cannot contract on future labor income. Agents trade financial securities to buffer idiosyncratic shocks, but the extent of trade is limited by borrowing constraints and transactions costs. The effect of frictions on the equity premium is decomposed into two components: a direct effect due to the equation of net-of-costs margins and an indirect effect due to increased consumption volatility. Simulations suggest that the direct effect dominates and that the model predicts a sizable equity premium only if costs are large or the quantity of tradable assets is limited.

JEL Classification: G12

Accepted Paper Series


Not Available For Download

Date posted: September 11, 1996  

Suggested Citation

Heaton, John and Lucas, Deborah J., Evaluating the Effects of Incomplete Markets on Risk Sharing and Asset Pricing. J. OF POLITICAL ECONOMY, Vol. 104 No. 3, June 1996. Available at SSRN: http://ssrn.com/abstract=7722

Contact Information

John C Heaton (Contact Author)
University of Chicago - Finance ( email )
5807 S. Woodlawn Avenue
Chicago, IL 60637
United States
Deborah J. Lucas
Northwestern University - Kellogg School of Management ( email )
2001 Sheridan Road
Evanston, IL 60208
United States
847-491-8333 (Phone)
847-491-5719 (Fax)
National Bureau of Economic Research (NBER)
1050 Massachusetts Avenue
Cambridge, MA 02138
United States
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