Distribution Risk and Equity Returns
THE EQUITY RISK PREMIUM, NORTH HOLLAND HANDBOOK OF FINANCE SERIES, R. Mehra, ed., North Holland, Amsterdam, 2006
44 Pages Posted: 19 Jun 2006
In this chapter we entertain the hypothesis that observed variations in income shares are the result of changes in the balance of power between workers and capital owners in labor relations. We show that this view implies that income share variations represent a risk factor of first-order importance for the owners of capital and, consequently, are a crucial determinant of the return to equity. When both risks are calibrated to observations, this distribution risk dominates in importance the usual systematic risk for the pricing of assets. We also show that distribution risks may originate in non-traded idiosyncratic income shocks. This study illustrates the benefits of applying a macroeconomic perspective to the study of financial return phenomena.
Keywords: Income shares, Distribution risk, equity premium, limited market
JEL Classification: E32, G12
Suggested Citation: Suggested Citation