Second-order approximation of dynamic models with time-varying risk

Gianluca Benigno, Pierpaolo Benigno and Salvatore Nisticò

LSE Research Online Documents on Economics from London School of Economics and Political Science, LSE Library

Abstract: This paper provides first and second-order approximation methods for the solution of nonlinear dynamic stochastic models in which the exogenous state variables follow conditionally-linear stochastic processes displaying time-varying risk. The first-order approximation is consistent with a conditionally-linear model in which risk is still timevarying but has no distinct role - separated from the primitive stochastic disturbances - in influencing the endogenous variables. The second-order approximation of the solution, instead, is sufficient to get this role. Moreover, risk premia, evaluated using only a first-order approximation of the solution, will be also time varying.

Keywords: stochastic volatility; second order approximation (search for similar items in EconPapers)
JEL-codes: C63 (search for similar items in EconPapers)
Pages: 23 pages
Date: 2010-12-01
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http://eprints.lse.ac.uk/121707/ Open access version. (application/pdf)

Related works:
Journal Article: Second-order approximation of dynamic models with time-varying risk (2013)
Working Paper: Second Order Approximation of Dynamic Models with Time-Varying Risk (2011)
Working Paper: Second-order approximation of dynamic models with time-varying risk (2011)
Working Paper: Second-Order Approximation of Dynamic Models with Time-Varying Risk (2011)
Working Paper: Second-Order Approximation of Dynamic Models with Time-Varying Risk (2010)
Working Paper: Second-Order Approximation of Dynamic Models with Time-Varying Risk (2010)
Working Paper: Second-Order Approximation of Dynamic Models with Time-Varying Risk (2010)
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