Asset Pricing Implications of Pareto Optimality with Private Information

Luigi Pistaferri and Narayana Kocherlakota

No 4930, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: In this paper, we consider a dynamic economy in which the agents are privately informed about their skills, which evolve stochastically over time in an arbitrary fashion. We consider an asset pricing equilibrium in which equilibrium quantities are constrained Pareto optimal. Under the assumption that agents have constant relative risk aversion, we derive a novel asset pricing kernel for financial asset returns. The kernel equals the reciprocal of the gross growth of the x-th moment of the consumption distribution, where x is the coefficient of relative risk aversion. We use data from the Consumer Expenditure Survey (CEX) and show that the new stochastic discount factor performs better than existing stochastic discount factors at rationalizing the equity premium. However, its ability to simultaneously explain the equity premium and the expected return to the Treasury bill is about the same as existing discount factors.

Keywords: Asset pricing; Consumer expenditure survey (search for similar items in EconPapers)
JEL-codes: E21 G12 (search for similar items in EconPapers)
Date: 2005-02
New Economics Papers: this item is included in nep-dge, nep-fin, nep-fmk and nep-mac
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (12)

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Related works:
Working Paper: Asset Pricing Implications of Pareto Optimality with Private Information (2007)
Working Paper: Asset Pricing Implications of Pareto Optimality with Private Information (2005)
Working Paper: Asset Pricing Implications of Pareto Optimality with Private Information (2004)
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