Real Flight to Safety

26 Pages Posted: 18 May 2017  

Chao Zi

University of Illinois at Urbana-Champaign

Date Written: March 2017

Abstract

I study a production economy in which productivity critically depends on the balance between public and private sector. Two counteracting effects, namely flight-to-safety effect and rebalancing effect, drive the macroeconomic quantities and asset prices. When calibrated to the U.S. economy, the model matches a number of macro and asset pricing moments, and generates two main implications: (1) Risk aversion and precautionary saving motive could transcend asset markets and have a distributional impact on real investment. (2) “Flight to safety” could lead to capital misallocation and thus crimped economic growth, which take a long time to recover. Finally, I test the model’s implication in the cross-section of equity returns and find supportive evidence.

Keywords: Uncertainty, Misallocation, Flight to Safety

JEL Classification: E44, G00, G18

Suggested Citation

Zi, Chao, Real Flight to Safety (March 2017). Available at SSRN: https://ssrn.com/abstract=2970030 or http://dx.doi.org/10.2139/ssrn.2970030

Chao Zi (Contact Author)

University of Illinois at Urbana-Champaign ( email )

601 E John St
Champaign, IL 61820
United States

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