Financial Innovation, Market Participation and Asset Prices

Laurent Calvet, Martin Gonzalez-Eiras and Paolo Sodini ()
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Paolo Sodini: Dept. of Finance, Stockholm School of Economics, Postal: P.O. Box 6501, S-113 83 Stockholm, Sweden

No 464, SSE/EFI Working Paper Series in Economics and Finance from Stockholm School of Economics

Abstract: This paper proposes that the introduction of non-redundant assets can endogenously modify trader participation in financial markets, which can lead to a lower market premium and a higher interest rate. We demonstrate this mechanism in a tractable exchange economy with endogenous participation. Investors receive heterogeneous random incomes determined by a finite number of macroeconomic factors. They can freely borrow and lend, but must pay a fixed entry cost to invest in risky assets. Security prices and the participation structure are jointly determined in equilibrium. The model reconciles a number of features that have characterized financial markets in the past three decades: substantial financial innovation; a sharp increase in investor participation; improved risk management practices; an increase in interest rates; and a reduction in the risk premium.

Keywords: Endogenous Participation; Epstein-Zin Utility; Financial Innovation; Incomplete Markets; Multiple Risk Factors; Risk Premium; Spanning. (search for similar items in EconPapers)
JEL-codes: D52 E44 G12 (search for similar items in EconPapers)
Pages: 46 pages
Date: 2001-08-01
New Economics Papers: this item is included in nep-fin
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Citations: View citations in EconPapers (9)

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Related works:
Journal Article: Financial Innovation, Market Participation, and Asset Prices (2004)
Working Paper: Financial Innovation, Market Participation, and Asset Prices (2004)
Working Paper: Financial Innovation, Market Participation, and Asset Prices (2004)
Working Paper: Financial Innovation, Market Participation and Asset Prices (2003)
Working Paper: Financial Innovation, Market Participation and Asset Prices (2001)
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Persistent link: https://EconPapers.repec.org/RePEc:hhs:hastef:0464

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