Relative Risk Aversion and Business Fluctuations

Ken-ichi Hashimoto, Ryonghun Im, Takuma Kunieda and Akihisa Shibata

ISER Discussion Paper from Institute of Social and Economic Research, The University of Osaka

Abstract: By applying a simple dynamic general equilibrium model without exogenous shocks inhabited by infinitely lived capitalists and workers, we show that a higher degree of relative risk aversion can destabilize an economy. In traditional real business cycle (RBC) theory, a higher degree of relative risk aversion dampens the amplitude of the consumption fluctuations caused by exogenous shocks through consumption smoothing. However, a higher degree of relative risk aversion combined with a high degree of elasticity of the marginal product of capital can also lead to the emergence of a nonlinear mechanism that causes endogenous business fluctuations. The nontrivial steady state loses stability due to the higher degree of relative risk aversion; thus, endogenous business fluctuations can occur. This result suggests that for a deeper understanding of boom-bust cycles, researchers should merge exogenous and endogenous business fluctuations when investigating economies.

Date: 2025-01
New Economics Papers: this item is included in nep-dge, nep-rmg and nep-upt
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https://www.iser.osaka-u.ac.jp/static/resources/docs/dp/2025/DP1272.pdf

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Working Paper: Relative Risk Aversion and Business Fluctuations (2025)
Working Paper: Relative Risk Aversion and Business Fluctuations (2025)
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