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Search Frictions and Asset Price Volatility

B Ravikumar and Enchuan Shao

Staff Working Papers from Bank of Canada

Abstract: We examine the quantitative effect of search frictions in product markets on asset price volatility. We combine several features from Shi (1997) and Lagos and Wright (2002) in a model without money. Households prefer special goods and general goods. Special goods can be obtained only via a search in decentralized markets. General goods can be obtained via trade in centralized competitive markets and via ownership of an asset. There is only one asset in our model that yields general goods. The asset is also used as a medium of exchange in the decentralized market to obtain the special goods. The value of the asset in facilitating transactions in the decentralized market is determined endogenously. This transaction role makes the asset pricing implications of our model different from those in the standard asset pricing model. Our model not only delivers the observed average rate of return on equity and the volatility of the equity price, but also accounts for most of the spectral characteristics of the equity price.

Keywords: Financial markets; Market structure and pricing (search for similar items in EconPapers)
JEL-codes: E44 G12 (search for similar items in EconPapers)
Pages: 25 pages
Date: 2010
New Economics Papers: this item is included in nep-dge and nep-mac
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Working Paper: Search Frictions and Asset Price Volatility (2005) Downloads
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