Journal Article

Labour Relations and Asset Returns

Jean-Pierre Danthine and John B. Donaldson

in The Review of Economic Studies

Published on behalf of Review of Economic Studies Ltd

Volume 69, issue 1, pages 41-64
Published in print January 2002 | ISSN: 0034-6527
Published online January 2002 | e-ISSN: 1467-937X | DOI: http://dx.doi.org/10.1111/1467-937X.00197
Labour Relations and Asset Returns

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This paper proposes a dynamic GE model with standard business cycle properties that also achieves a satisfactory replication of the major financial stylized facts. We ride on two major ideas. First, we show that operating leverage, originating in the priority status of wage claims given the observed business cycle characteristics of the latter, magnifies the risk properties of the residual payments to firm owners and justifies a substantial risk premium. Further we build on the observation that the low frequency variations in income shares constitute a significant source of risk, one that is unlikely to be insurable. When we price this risk in an incomplete market framework, we obtain a GE model with return volatilities close to observations and a sizable equity premium. This is accomplished in a world of low risk aversion and standard utility function but with agent heterogeneity. Workers with restricted access to financial markets are insured by firms and the consumption and preferences of firm owners solely determine the pricing kernel.

Journal Article.  0 words. 

Subjects: Economics

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