Markup Shocks and Asset Prices
50 Pages Posted: 29 Mar 2022
Date Written: March 17, 2022
We explore the asset pricing implications of shocks that allow firms to extract more rents from consumers. These markup shocks directly impact the representative household's marginal utility and the firms' cash flow. Using firm-level data, we construct a measure of aggregate markup shocks and show that the price of markup risk is negative, that is, a positive markup shock is associated with high marginal utility states. Markup shocks generate differences in risk premia due to their heterogeneous impact on firms. Firms with larger exposures to markup shocks are less risky and have lower expected returns. We rationalize these findings in a general equilibrium model with markup shocks.
Keywords: Production-based asset pricing, imperfect competition, time-varying markups, cross-section of stock returns, recursive preferences
JEL Classification: G12, G11, G10, E30
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