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The equity premium in retrospect

Rajnish Mehra () and Edward Prescott

Chapter 14 in Handbook of the Economics of Finance, 2003, vol. 1, Part 2, pp 889-938 from Elsevier

Abstract: This paper is a critical review of the literature on the "equity premium puzzle[equal, rising dots]. The puzzle, as originally articulated more than fifteen years ago, underscored the inability of the standard paradigm of Economics and Finance to explain the magnitude of the risk premium, that is, the return earned by a risky asset in excess of the return to a relatively riskless asset such as a U.S. government bond. The paper summarizes the historical experience for the USA and other industrialized countries and details the intuition behind the discrepancy between model prediction and empirical data. Various research approaches that have been proposed to enhance the model's realism are detailed and, as such, the paper reviews the major directions of theoretical financial research over the past ten years. The author argues that the majority of the proposed resolutions fail along crucial dimensions and proposes a promising direction for future research.

JEL-codes: G12 (search for similar items in EconPapers)
Date: 2003
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