The market cost of business cycle fluctuations

Anisha Ghosh, Christian Julliard and Michael J. Stutzer

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

Abstract: We propose a novel approach to measure the cost of aggregate economic fluctuations that does not require complete specification of investors’ risk preferences or their beliefs. With data on consumption and asset prices, an information-theoretic method is used to recover an information kernel (I-SDF). The I-SDF prices asset returns much better than tightly parametrized structural models, thereby offering a reliable candidate for the measurement of the welfare cost of business cycles. Our method enables the estimation of both the unconditional (or, average) cost of fluctuations, as well as the cost conditional on the state of the economy. We find that the cost of fluctuations is strongly time varying and countercyclical and that the cost of business cycle fluctuations is substantial, accounting for a quarter to a third of the cost of all consumption uncertainty. This paper was accepted by Lukas Schmid, finance. Supplemental Material: The online appendices and data files are available at https://doi.org/10.1287/mnsc.2023.00484 .

Keywords: aggregate uncertainty; business cycle risk; pricing kernal; empirical likelihood; smoothed empirical likelihood (search for similar items in EconPapers)
JEL-codes: C50 E20 E30 G12 (search for similar items in EconPapers)
Date: 2026-04-20
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Published in Management Science, 20, April, 2026. ISSN: 0025-1909

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