Income Insurance and the Equilibrium Term-Structure of Equity
83 Pages Posted: 15 Jun 2016
Date Written: June 8, 2016
Output, wages and dividends feature term-structures of variance-ratios respectively flat, increasing and decreasing. Income insurance from shareholders to workers empirically and theoretically explains these term-structures. Risk sharing smooths wages but only concerns transitory risk and, hence, enhances the short-run dividend risk. A simple general equilibrium model, where labor rigidity affects dividend dynamics and the price of short-run risk, reconciles standard asset pricing facts with the term-structures of equity premium and volatility and those of macroeconomic variables, at odds in leading models. Consistently, actual labor-share variation largely forecasts dividend strips risk, premium and slope.
Keywords: term structure of equity, income insurance, dividend strips, risk sharing, equilibrium asset pricing
JEL Classification: D51, E21, G12
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