Risk Aversion Sensitive Real Business Cycles

48 Pages Posted: 8 Oct 2012 Last revised: 16 May 2019

See all articles by Zhanhui Chen

Zhanhui Chen

Hong Kong University of Science & Technology (HKUST) - Department of Finance

Ilan Cooper

BI Norwegian Business School

Paul Ehling

BI - Norwegian Business School

Costas Xiouros

BI Norwegian Business School

Date Written: April 2019

Abstract

Technology choice allows for substitution of production across states of nature and depends on state dependent risk aversion. In equilibrium, endogenous technology choice can counter a persistent negative productivity shock with an increase in investment. An increase in risk aversion intensifies transformation across states, which directly leads to higher investment volatility. In our model and the data, the conditional volatility of investment correlates negatively with the price-dividend ratio and predicts excess stock market returns. In addition, the same mechanism generates predictability of consumption and produces fluctuations in the risk-free rate.

Keywords: State-contingent technology; Time-varying risk aversion; Conditional volatility of investment; Predictability of returns

JEL Classification: E23, E32, E37, G12

Suggested Citation

Chen, Zhanhui and Cooper, Ilan and Ehling, Paul and Xiouros, Costas, Risk Aversion Sensitive Real Business Cycles (April 2019). Available at SSRN: https://ssrn.com/abstract=2158064 or http://dx.doi.org/10.2139/ssrn.2158064

Zhanhui Chen (Contact Author)

Hong Kong University of Science & Technology (HKUST) - Department of Finance ( email )

Clear Water Bay, Kowloon
Hong Kong

Ilan Cooper

BI Norwegian Business School ( email )

Nydalsveien 37
Oslo, 0442
Norway

Paul Ehling

BI - Norwegian Business School ( email )

N-0442 Oslo
Norway
+47 46410505 (Phone)

Costas Xiouros

BI Norwegian Business School ( email )

Nydalsveien 37
Oslo, 0442
Norway

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