Rare Macroeconomic Disasters
The potential for rare macroeconomic disasters may explain an array of asset-pricing puzzles. Our empirical studies of these extreme events rely on long-term data now covering 28 countries for consumption and 40 for GDP. A baseline model calibrated with observed peak-to-trough disaster sizes accords with the average equity premium with a reasonable coefficient of relative risk aversion. High stock-price volatility can be explained by incorporating time-varying long-run growth rates and disaster probabilities. Business-cycle models with shocks to disaster probability have implications for the cyclical behavior of asset returns and corporate leverage, and international versions may explain the uncovered-interest-parity puzzle. Richer models of disaster dynamics allow for transitions between normalcy and disaster, bring in post-crisis recoveries, and use the full time series on consumption. Potential future research includes applications to long-term economic growth and environmental economics and the use of stock-price options and other variables to gauge time-varying disaster probabilities.
This research is supported by grant SES-0949496 from the National Science Foundation. We appreciate helpful comments from David Backus, Xavier Gabaix, Tao Jin, Ian Martin, Emi Nakamura, and Jón Steinsson. The views expressed herein are those of the authors and do not necessarily reflect the views of the National Bureau of Economic Research.
Robert J. Barro & Josï¿½ F. Ursï¿½a, 2012. "Rare Macroeconomic Disasters," Annual Review of Economics, Annual Reviews, vol. 4(1), pages 83-109, 07. citation courtesy of