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Consumption and Expected Asset Returns Without Assumptions About Unobservables

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  • Whelan, Karl

    (Central Bank and Financial Services Authority of Ireland)

Abstract

If asset returns are predictable, then rational expectations and the arithmetic of budget constraints together imply that these predictable changes in returns should affect current consumption. This paper presents a new framework linking consumption, income, and observable assets to expectations of future asset returns. Relative to previous work on this topic, the framework proposed in this paper has a number of advantages including not relying on untestable assumptions concerning unobservable variables and not requiring estimation of unknown parameters to arrive at a forecasting variable.

Suggested Citation

  • Whelan, Karl, 2006. "Consumption and Expected Asset Returns Without Assumptions About Unobservables," Research Technical Papers 4/RT/06, Central Bank of Ireland.
    • Handle: RePEc:cbi:wpaper:4/rt/06
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    References listed on IDEAS

    as
    1. Palumbo, Michael & Rudd, Jeremy & Whelan, Karl, 2006. "On the Relationships Between Real Consumption, Income, and Wealth," Journal of Business & Economic Statistics, American Statistical Association, vol. 24, pages 1-11, January.
    2. Campbell, John Y, 1991. "A Variance Decomposition for Stock Returns," Economic Journal, Royal Economic Society, vol. 101(405), pages 157-179, March.
    3. Pierre-Olivier Gourinchas & Hélène Rey, 2007. "International Financial Adjustment," Journal of Political Economy, University of Chicago Press, vol. 115(4), pages 665-703, August.
    4. Brennan, Michael J. & Xia, Yihong, 2005. "tay's as good as cay," Finance Research Letters, Elsevier, vol. 2(1), pages 1-14, March.
    5. Stock, James H & Watson, Mark W, 1993. "A Simple Estimator of Cointegrating Vectors in Higher Order Integrated Systems," Econometrica, Econometric Society, vol. 61(4), pages 783-820, July.
    6. John Y. Campbell & N. Gregory Mankiw, 1989. "Consumption, Income, and Interest Rates: Reinterpreting the Time Series Evidence," NBER Chapters, in: NBER Macroeconomics Annual 1989, Volume 4, pages 185-246, National Bureau of Economic Research, Inc.
    7. Martin Lettau & Sydney Ludvigson, 2001. "Consumption, Aggregate Wealth, and Expected Stock Returns," Journal of Finance, American Finance Association, vol. 56(3), pages 815-849, June.
    8. repec:fth:harver:1435 is not listed on IDEAS
    9. Campbell, John Y, 1993. "Intertemporal Asset Pricing without Consumption Data," American Economic Review, American Economic Association, vol. 83(3), pages 487-512, June.
    10. John H. Cochrane, 2008. "The Dog That Did Not Bark: A Defense of Return Predictability," The Review of Financial Studies, Society for Financial Studies, vol. 21(4), pages 1533-1575, July.
    11. Lettau, Martin & Ludvigson, Sydney C., 2005. "tay's as good as cay: Reply," Finance Research Letters, Elsevier, vol. 2(1), pages 15-22, March.
    12. Stambaugh, Robert F., 1999. "Predictive regressions," Journal of Financial Economics, Elsevier, vol. 54(3), pages 375-421, December.
    Full references (including those not matched with items on IDEAS)

    Citations

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    Cited by:

    1. Guglielmo Maria Caporale & Ricardo M. Sousa, 2011. "Are Stock and Housing Returns Complements or Substitutes? Evidence from OECD Countries," CESifo Working Paper Series 3621, CESifo.
    2. Caporale, Guglielmo Maria & Sousa, Ricardo M., 2016. "Consumption, wealth, stock and housing returns: Evidence from emerging markets," Research in International Business and Finance, Elsevier, vol. 36(C), pages 562-578.
    3. João M. Sousa & Ricardo M. Sousa, 2019. "Asset Returns Under Model Uncertainty: Evidence from the Euro Area, the US and the UK," Computational Economics, Springer;Society for Computational Economics, vol. 54(1), pages 139-176, June.
    4. Christian Grisse & Thomas Nitschka, 2016. "Exchange Rate Returns and External Adjustment: Evidence from Switzerland," Open Economies Review, Springer, vol. 27(2), pages 317-339, April.
    5. Chauvin, V. & Damette, O., 2010. "Wealth effects: the French case," Working papers 276, Banque de France.
    6. Kishor, N. Kundan, 2023. "Estimating Expected Asset Returns With the Present Value Model of Consumption and Fed Forecasts," MPRA Paper 119617, University Library of Munich, Germany.
    7. Pierre Lafourcade, 2008. "Are Asset Returns Predictable from the National Accounts?," DNB Working Papers 189, Netherlands Central Bank, Research Department.

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    More about this item

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth

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