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Article: Rational inattention, long-run consumption risk, and portfolio choice

TitleRational inattention, long-run consumption risk, and portfolio choice
Authors
KeywordsAggregate Consumption
Long-Run Consumption Risk
Long-Term Portfolio Choice
Rational Inattention
Issue Date2010
PublisherAcademic Press. The Journal's web site is located at http://www.elsevier.com/locate/red
Citation
Review Of Economic Dynamics, 2010, v. 13 n. 4, p. 843-860 How to Cite?
AbstractThis paper explores how the introduction of rational inattention (RI) - that agents process information subject to finite channel capacity - affects optimal consumption and investment decisions in an otherwise standard intertemporal model of portfolio choice. We first explicitly derive optimal consumption and portfolio rules under RI and then show that introducing RI reduces the optimal share of savings invested in the risky asset because inattentive investors face greater long-run consumption risk. We also show that the investment horizon matters for portfolio allocation in the presence of RI, even if investment opportunities are constant and the utility function of investors is constant relative risk aversion. Second, after aggregating across investors, we show that introducing RI can better explain the observed joint dynamics of aggregate consumption and the equity return. Finally, we show that RI increases the implied equity premium because investors under RI face greater long-run consumption risk and thus require higher compensation in equilibrium. © 2010 Elsevier Inc.
Persistent Identifierhttp://hdl.handle.net/10722/177781
ISSN
2015 Impact Factor: 1.256
2015 SCImago Journal Rankings: 2.554
ISI Accession Number ID
References

 

DC FieldValueLanguage
dc.contributor.authorLuo, Yen_US
dc.date.accessioned2012-12-19T09:39:53Z-
dc.date.available2012-12-19T09:39:53Z-
dc.date.issued2010en_US
dc.identifier.citationReview Of Economic Dynamics, 2010, v. 13 n. 4, p. 843-860en_US
dc.identifier.issn1094-2025en_US
dc.identifier.urihttp://hdl.handle.net/10722/177781-
dc.description.abstractThis paper explores how the introduction of rational inattention (RI) - that agents process information subject to finite channel capacity - affects optimal consumption and investment decisions in an otherwise standard intertemporal model of portfolio choice. We first explicitly derive optimal consumption and portfolio rules under RI and then show that introducing RI reduces the optimal share of savings invested in the risky asset because inattentive investors face greater long-run consumption risk. We also show that the investment horizon matters for portfolio allocation in the presence of RI, even if investment opportunities are constant and the utility function of investors is constant relative risk aversion. Second, after aggregating across investors, we show that introducing RI can better explain the observed joint dynamics of aggregate consumption and the equity return. Finally, we show that RI increases the implied equity premium because investors under RI face greater long-run consumption risk and thus require higher compensation in equilibrium. © 2010 Elsevier Inc.en_US
dc.languageengen_US
dc.publisherAcademic Press. The Journal's web site is located at http://www.elsevier.com/locate/reden_US
dc.relation.ispartofReview of Economic Dynamicsen_US
dc.subjectAggregate Consumptionen_US
dc.subjectLong-Run Consumption Risken_US
dc.subjectLong-Term Portfolio Choiceen_US
dc.subjectRational Inattentionen_US
dc.titleRational inattention, long-run consumption risk, and portfolio choiceen_US
dc.typeArticleen_US
dc.identifier.emailLuo, Y: yluo@econ.hku.hken_US
dc.identifier.authorityLuo, Y=rp01083en_US
dc.description.naturelink_to_subscribed_fulltexten_US
dc.identifier.doi10.1016/j.red.2010.01.002en_US
dc.identifier.scopuseid_2-s2.0-77956228546en_US
dc.identifier.hkuros170295-
dc.relation.referenceshttp://www.scopus.com/mlt/select.url?eid=2-s2.0-77956228546&selection=ref&src=s&origin=recordpageen_US
dc.identifier.volume13en_US
dc.identifier.issue4en_US
dc.identifier.spage843en_US
dc.identifier.epage860en_US
dc.identifier.eissn1096-6099-
dc.identifier.isiWOS:000281944600007-
dc.publisher.placeUnited Statesen_US
dc.identifier.scopusauthoridLuo, Y=23767888300en_US
dc.identifier.citeulike6661638-

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