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Rare Macroeconomic Disasters

Author

Listed:
  • Robert J. Barro

    ( Department of Economics, Harvard University, Cambridge, Massachusetts 02138)

  • José F. Ursúa

    ( Global Investment Research, Goldman Sachs, New York, NY 10282)

Abstract

The potential for rare macroeconomic disasters may explain an array of asset-pricing puzzles. Our empirical studies of these extreme events rely on long-term data now covering 28 countries for consumption and 40 for GDP. A baseline model calibrated with observed peak-to-trough disaster sizes accords with the average equity premium with a reasonable coefficient of relative risk aversion. High stock-price volatility can be explained by incorporating time-varying long-run growth rates and disaster probabilities. Business-cycle models with shocks to disaster probability have implications for the cyclical behavior of asset returns and corporate leverage, and international versions may explain the uncovered-interest-parity puzzle. Richer models of disaster dynamics allow for transitions between normalcy and disaster, bring in postcrisis recoveries, and use the full time series on consumption. Potential future research includes applications to long-term economic growth and environmental economics, and the use of stock-index options prices and other variables to gauge time-varying disaster probabilities.

Suggested Citation

  • Robert J. Barro & José F. Ursúa, 2012. "Rare Macroeconomic Disasters," Annual Review of Economics, Annual Reviews, vol. 4(1), pages 83-109, July.
    • Handle: RePEc:anr:reveco:v:4:y:2012:p:83-109
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    More about this item

    Keywords

    national accounts; rare disasters; disaster probability; fat tails; power-law distribution; equity premium; asset-pricing puzzles;
    All these keywords.

    JEL classification:

    • E1 - Macroeconomics and Monetary Economics - - General Aggregative Models
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • G1 - Financial Economics - - General Financial Markets
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
    • D91 - Microeconomics - - Micro-Based Behavioral Economics - - - Role and Effects of Psychological, Emotional, Social, and Cognitive Factors on Decision Making

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