Asset Pricing in a Low Rate Environment

Marlon Azinovic, Harold Cole and Felix Kubler
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Marlon Azinovic: University of Pennsylvania

No 23-31, Swiss Finance Institute Research Paper Series from Swiss Finance Institute

Abstract: We examine asset prices in environments where the risk-free rate lies considerably below the growth rate. To do so, we introduce a tractable model of a production economy featuring heterogeneous trading technologies, as well as idiosyncratic and aggregate risk. We show that allowing for the possibility of firms exiting is crucial for matching key macroeconomic moments and, simultaneously, the risk-free rate, the market price of risk, and price-earnings ratios. In particular, our model allows us to consider calibrations that match the high observed market price of risk and average interest rates as low as 2-3.5 percent below the average growth rate. High values for risk aversion or non-standard preferences are not necessary for this. We use the model to examine the wealth distribution and asset prices in economies with very low real rates. We also examine under which conditions realistic calibrations allow for an infinite rollover of government debt. For our benchmark calibration, rollover is impossible even if the average risk-free rate lies 3.5 percent below the average growth rate.

Keywords: Asset pricing; low rates; r-g; limited participation; market price of risk (search for similar items in EconPapers)
JEL-codes: E44 E6 G12 (search for similar items in EconPapers)
Pages: 59 pages
Date: 2023-05
New Economics Papers: this item is included in nep-dge, nep-fdg and nep-fmk
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Working Paper: Asset Pricing in a Low Rate Environment (2023)
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Persistent link: https://EconPapers.repec.org/RePEc:chf:rpseri:rp2331

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