Becker Friedman Institute

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Uncertainty Outside and Inside Economic Models

Asset pricing theory has long recognized that financial markets compensate investors who are exposed to some components of uncertainty. This is where macroeconomics comes into play. The economy-wide shocks, the primary concern of macroeconomists, by their nature are not diversifiable. Exposures to these shocks cannot be averaged out with exposures to other shocks. Thus returns on assets that depend on these macroeconomic shocks reflect “risk” premia and are a linchpin connecting macroeconomic uncertainty to financial markets. A risk premium reflects both the price of risk and the degree of exposure to risk. I will be particularly interested in how the exposures to macroeconomic impulses are priced by decentralized security markets.

 

 

Authors: 
Lars Peter Hansen, The University of Chicago
Publication Date: 
July, 2014
BFI Initiative: 
Publication Status: 
Document Number: 
2014-06