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Pricing Assets in a Perpetual Youth Model

Roger Farmer

NBER Working Paper No. 24261
Issued in January 2018
NBER Program(s):Asset Pricing, Economic Fluctuations and Growth, Monetary Economics

This paper constructs a general equilibrium model where asset price fluctuations are caused by random shocks to beliefs about the future price level that reallocate consumption across generations. In this model, asset prices are volatile, and price-earnings ratios are persistent, even though there is no fundamental uncertainty and financial markets are sequentially complete. I show that the model can explain a substantial risk premium while generating smooth time series for consumption. In my model, asset price fluctuations are Pareto inefficient and there is a role for treasury or central bank intervention to stabilize asset price volatility.

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Document Object Identifier (DOI): 10.3386/w24261

Published: Roger E.A. Farmer, 2018. "Pricing assets in a perpetual youth model," Review of Economic Dynamics, .

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