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Demand Disagreement

Christian Heyerdahl-Larsen and Philipp Illeditsch
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Philipp Illeditsch: Carnegie Mellon University, Tepper Schoo

No 607, 2018 Meeting Papers from Society for Economic Dynamics

Abstract: Classical asset pricing models fail to account for the low correlation between macroeconomic fundamentals and (i) stock market returns and (ii) trading volume observed in the data. We develop an overlapping generations model with log utility investors who have heterogeneous time preferences and disagree about investors’ future time preferences and, thus, their future demands. There is speculative trade because investors perceive demand shocks differently and, thus, even in the absence of Merton’ type hedging demands or early resolution of uncertainty, these demand shocks, which are independent of output shocks, are priced in equilibrium. Our demand disagreement model can reconcile time-varying risk-free rates, excess stock market volatility, and the predictability of stock market returns by the price- dividend ratio, with a low correlation between macroeconomic fundamentals and both asset prices and trading volume.

Date: 2018
New Economics Papers: this item is included in nep-dge and nep-upt
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