Review of Financial Studies Vol. 23 No. 8 2010
Long-Run Risk through Consumption Smoothing
Abstract
We examine how long-run consumption risk arises endogenously in a standard pro-duction economy model where the representative agent has Epstein-Zin preferences. We show that even when technology growth is i.i.d., optimal consumption smoothing induces long run risk- highly persistent variation in expected consumption growth. As a consequence, the model can account for a high price of risk although both consump-tion growth volatility and the coe ¢ cient of relative risk aversion are low. The asset pricing implications of endogenous long-run risk depend crucially on the persistence of technology shocks and investorspreference for the timing of resolution of uncertainty.
- DOI
- 10.1093/rfs/hhq033
- Volume
- 23
- Issue
- 8
- Pages
- 3190-3224
- Language
- en
- Sources
- openalex crossref