Asset price volatilities and trading volumes in heterogeneous agent economies

Apart from the risk premium of equity over bonds, volatility of asset prices and trading volumes are two aspects of the already developed general equilibrium asset pricing theory that fail to show any resemblance with real data. The assumption of agent homogeneity has been relaxed in a number of studies where agents face uninsurable income shocks but fail to provide a consistent explanation that addresses all issues. This study assumes a dynamically complete asset market with two states and two assets, where the agents are allowed to be heterogeneous either in terms of their risk preferences, or in terms of their beliefs for the probabilities of the exogenous shock. The assumption that the (logarithm of the) aggregate dividend follows an autoregressive process with an iid state dependent shock, helps us construct a non-trivial equilibrium in which the endogenously determined wealth distribution across agents is part of the economy's state vector. Qualitative results show that this kind of setup works in the right direction in all issues addressed, while quantitative results are produced using a projection method as well as a variant of the Krusell and Smith method

The Representative Agent of an Economy with External Habit Formation and Heterogeneous Risk Aversion

In this article, we derive an analytic expression for the representative agent of a large class of economies populated by agents with "catching up with the Joneses" preferences, but who exhibit heterogeneous risk aversion. As Chan and Kogan (2002) show numerically, the representative agent has stochastic risk that moves countercyclically to the state variable. However, we show that heterogeneity of risk aversion alone is insufficient for explaining empirical regularities--namely the variability of the Sharpe ratio--that Campbell and Cochrane�(1999) obtain in a model of a representative agent with stochastic risk aversion. The Author 2010. Published by Oxford University Press on behalf of The Society for Financial Studies. All rights reserved. For Permissions, please e-mail: [email protected]., Oxford University Press.