In textbook expositions of the equity-premium, riskfree-rate and equity-volatility puzzles, agents are sure of the economy's structure while growth rates are normally distributed. But because of parameter uncertainty the thin-tailed normal distribution conditioned on realized data becomes a thick-tailed Student-t distribution, which changes the entire nature of what is considered "puzzling" by reversing every inequality discrepancy needing to be explained. This paper shows that Bayesian updating of unknown structural parameters inevitably adds a permanent tail-thickening effect to posterior expectations. The expected-utility ramifications of this for asset pricing are strong, work against the puzzles, and are very sensitive to subjective prior beliefs—even with asymptotically infinite data. (JEL D84, G12)
Download Info
To download:
If you experience problems downloading a file, check if you have the
proper application to
view it first. Information about this may be contained
in the File-Format links below. In case of further problems read
the IDEAS help
file. Note that these files are not on the IDEAS
site. Please be patient as the files may be large.
For technical questions regarding this item, or to correct its listing, contact: (Christopher F. Baum).
Related research
Keywords:
Cited by: (explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)