Munich Personal RePEc Archive

Model Uncertainty, the Spirit of Capitalism and Asset Pricing

Wang, Gaowang (2014): Model Uncertainty, the Spirit of Capitalism and Asset Pricing.

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Abstract

This paper examines how a preference for robustness affects optimal consumption-portfolio rules as well as the equilibrium asset returns when investors care about their social status (or they have the spirit of capitalism). It is shown that the interaction of these two preferences leads to higher equity premium by enhancing investors's effetive risk aversion and making them more conservative in risk-taking. In addition, we find that they also lead to greater precautionary savings and lower risk-free rate in general equilibrium. We then show that the interaction of the two preferences has the potential to resolve the equity premium puzzle and the risk-free rate puzzle for plausible parameter values. helps to resolve the equity premium and the risk-free rate puzzle.

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