Risk aversion, intertemporal substitution, and the aggregate investment-uncertainty relationship

Enrico Saltari and Davide Ticchi ()

No 69, Working Papers in Public Economics from Department of Economics and Law, Sapienza University of Roma

Abstract: We analyze the role of risk aversion and intertemporal substitution in a simple dynamic investment model. Our main finding is that risk aversion cannot by itself explain a negative relationship between aggregate investment and aggregate uncertainty, as the effect of increased uncertainty in investement also depends on the intertemporal elasticity of substitution. In particular, the relationship between aggregate investment and aggregate uncertainty is positive even if agents are very risk averse, as long as the elasticity of intertemporal substitution is low. A negative relationship requires thet the relative risk aversion and the elasticity of intertemporal substitution are both relatively high or both relatively low. We also show that the implications of our model are consistent with the available empirical evidence.

JEL-codes: D81 D92 E22 (search for similar items in EconPapers)
Pages: 30
Date: 2002-02
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Journal Article: Risk aversion, intertemporal substitution, and the aggregate investment-uncertainty relationship (2007)
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