Journal of Financial and Quantitative Analysis Vol. 61 No. 2 2026
Real(istic) Time-Varying Probability of Consumption Disasters
Abstract
We model the time-varying probability of consumption disasters with international risk interactions and estimate the model using national accounts data of 42 countries back to 1833. The estimated world and country-specific disaster probabilities accord well with historical macroeconomic disasters. A match of the equity premium requires a relative risk aversion coefficient of approximately 5, which is significantly lower than previous estimates. Furthermore, the model provides notably better fits for equity volatility compared with alternative rare-disaster models. Finally, the disaster probability index estimated from the model demonstrates significant out-of-sample predictive power over long horizons, performing well not only over time but also across countries.
- DOI
- 10.1017/s0022109025101853
- Volume
- 61
- Issue
- 2
- Pages
- 906-940
- Language
- en
- Sources
- openalex crossref