Measuring the cost of economic fluctuations with preferences that rationalize the equity premium

Angelo Melino

Canadian Journal of Economics/Revue canadienne d'économique, 2010, vol. 43, issue 2, 405-422

Abstract: Abstract Lucas (2003) argues that the potential welfare gains from stabilizing the business cycle are small. In fact, he shows that the benefits of eliminating all economic fluctuations are small, especially when compared with the potential gains from other reforms. His estimates are obtained using standard preferences. I show that a model consistent with observed data on asset returns leads to very different conclusions. Calibrating preferences to observed asset market data raises the estimated welfare gains from completely eliminating aggregate fluctuations by approximately two orders of magnitude. Most of the gains, however, come from the elimination of low‐frequency contributions. Lucas (2003) suggère que les gains de bien‐être potentiels qui émergeraient d’une stabilisation du cycle économique sont faibles. De fait, il montre que les avantages àéliminer toutes les fluctuations économiques sont spécialement faibles quand on les compare aux gains potentiels qu’on peut attendre d’autres réformes. Il développe ces estimations à l’aide de préférences standards. On montre qu’un modèle consistant avec les données observées sur le rendement des actifs nous amène à des conclusions différentes. Le fait d’arrimer les préférences aux données observées sur le marché des actifs double à peu près la magnitude des gains de bien‐être si on éliminait complètement les fluctuations agrégées. Le gros des gains, cependant, émergerait de l’élimination des événements peu fréquents.

Date: 2010
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https://doi.org/10.1111/j.1540-5982.2010.01591.x

Related works:
Journal Article: Measuring the cost of economic fluctuations with preferences that rationalize the equity premium (2010)
Working Paper: Measuring the Cost of Economic Fluctuations with Preferences that Rationalize the Equity Premium (2006)
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Persistent link: https://EconPapers.repec.org/RePEc:wly:canjec:v:43:y:2010:i:2:p:405-422

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