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Resolving asset pricing puzzles using price-impact

Xiao Chen, Jin Hyuk Choi, Kasper Larsen and Duane J. Seppi

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Abstract: We solve in closed-form an equilibrium model in which a finite number of exponential investors continuously consume and trade with price-impact. Compared to the analogous Pareto-efficient equilibrium model, price-impact has an amplification effect on risk-sharing distortions that helps resolve the interest rate puzzle and the stock-price volatility puzzle and, to a lesser extent, affects the equity premium puzzle.

Date: 2019-10, Revised 2020-06
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Handle: RePEc:arx:papers:1910.02466