Habit Formation: A Resolution of the Equity Premium Puzzle

George Constantinides

Journal of Political Economy, 1990, vol. 98, issue 3, 519-43

Abstract: The equity premium puzzle, identified by Rajnish Mehra and Edward C. Prescott, states that, for plausible values of the risk aversion coefficient, the difference of the expected rate of return on the stock market and the riskless rate of interest is too large, given the observed small variance of the growth rate in per capita consumption. The puzzle is resolved in the context of an economy with rational expectations once the time separability of von Neumann-Morgenstern preferences is relaxed to allow for adjacent complementarity in consumption, a property known as habit persistence. Essentially, habit persistence drives a wedge between the relative risk aversion of the representative agent and the intertemporal elasticity of substitution in consumption. Copyright 1990 by University of Chicago Press.

Date: 1990
References: Add references at CitEc
Citations: View citations in EconPapers (1061)

Downloads: (external link)
http://dx.doi.org/10.1086/261693 full text (application/pdf)
Access to full text is restricted to subscribers. See http://www.journals.uchicago.edu/JPE for details.

Related works:
Working Paper: Habit formation: a resolution of the equity premium puzzle (1990)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:ucp:jpolec:v:98:y:1990:i:3:p:519-43

Access Statistics for this article

More articles in Journal of Political Economy from University of Chicago Press
Bibliographic data for series maintained by Journals Division ().