Quantitative Asset Pricing Implications of Endogenous Solvency Constraints

71 Pages Posted: 8 Mar 1999 Last revised: 6 Jul 2018

See all articles by Fernando Alvarez

Fernando Alvarez

University of Chicago - Department of Economics; National Bureau of Economic Research (NBER)

Urban J. Jermann

University of Pennsylvania - Finance Department; National Bureau of Economic Research (NBER)

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Date Written: February 1999

Abstract

We study the asset pricing implications of an economy where solvency constraints are determined to efficiently deter agents from defaulting. We present a simple example for which efficient allocations and all equilibrium elements are characterized analytically. The main model produces large equity premia and risk premia for long term bonds with low risk aversion and a plausibly calibrated income process. We characterize the deviations from independence of aggregate and individual income uncertainty that produce equity and term premia.

Suggested Citation

Alvarez, Fernando and Jermann, Urban J., Quantitative Asset Pricing Implications of Endogenous Solvency Constraints (February 1999). NBER Working Paper No. w6953, Available at SSRN: https://ssrn.com/abstract=150069

Fernando Alvarez

University of Chicago - Department of Economics ( email )

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Urban J. Jermann (Contact Author)

University of Pennsylvania - Finance Department ( email )

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