ON THE ECONOMIC IMPACT OF MODELING NONLINEARITIES: THE ASSET PRICING EXAMPLE

We investigate the economic importance of modeling nonlinearities in the dynamics of exogenous processes on the implied moments of endogenous variables in the context of the consumption-based asset pricing model. For this purpose, we model the endowment process alternatively as a linear autoregressi...

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Bibliographic Details
Published in:Macroeconomic dynamics 2006-02, Vol.10 (1), p.56-76
Main Author: BIDARKOTA, PRASAD V.
Format: Article
Language:English
Subjects:
Business cycles
Consumption
Dividends
Economic impact
Economic models
Economic theory
Endowment
Macroeconomics
Rates of return
Regression analysis
Stochastic models
Studies
Variables
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Summary:We investigate the economic importance of modeling nonlinearities in the dynamics of exogenous processes on the implied moments of endogenous variables in the context of the consumption-based asset pricing model. For this purpose, we model the endowment process alternatively as a linear autoregression and as a nonlinear threshold autoregression. The asset pricing model with nonlinear endowment is solved using quadrature techniques. A comparison of the moments of the model-implied rates of return in the two cases suggests that the economic impact of modeling nonlinearities is small.
ISSN:1365-1005
1469-8056
DOI:10.1017/S136510050605005X