Working Papers

Confidence, Bond Risks, and Equity Returns,2016, Accepted at Journal of Financial Economics

Abstract: We show that investor confidence (size of ambiguity) about future consumption growth is driven by past consumption growth and inflation. The impact of inflation on confidence has moved considerably over time and switched on average from negative to positive in 1997. Motivated by this evidence, we develop and calibrate a model in which the confidence process has discrete regime shifts, and find that the time-varying impacts of inflation on confidence enables the model to match the bond risks over different subperiods. The model can also account for stock and bond return predictability, correlation between price-dividend ratios and inflation, and other moments.

“Learning from Monetary Shocks and Asset Returns” (joint with Simon Gilchrist), November 2015, Slides

Abstract: In an otherwise standard New Keynesian model, we assume that the monetary authority has more information about TFP growth than the private sector. Consequently, agents in the private sector cannot fully distinguish monetary shocks from changes in TFP growth rates when the monetary authority sets interest rate according to a Taylor rule. In this environment, agents update their beliefs using a Kalman Filter. Following an expansionary monetary policy shock, agents expect a higher TFP growth today; this causes stock price, output, and labor to rise simultaneously. Mean reverting TFP growth expectation implies lower future growth expectation, which lower nominal and real bond yields and increase inflation. A calibrated version of the model does well at matching the empirical reactions of stock and bond markets to monetary shocks. Monetary shocks work like noise shocks and generate business cycle comovements among key macro variables.

“Confidence, Asset Returns, and Monetary Policy in a New Keynesian Model,” December 2014.

Abstract: The volatility of macroeconomic and financial variables has exhibited a high degree of time variation in the data, and the conditional volatility of inflation is positively correlated with future volatility of other macroeconomic and financial variables. Instead of assuming stochastic volatility exogenously, this paper proposes a model that generates these features endogenously in a simple New Keynesian framework. The model can generate upward sloping yield curves and positive correlation between inflation and dividend yields. I assume that agents are ambiguity averse, and that the amount of ambiguity is affected by the past performance of the central bank. If the central bank was unable to control inflation and output recently, the agent becomes more ambiguous about technology growth and the ambiguity process becomes more volatile. Thus (a) output, consumption, dividend yields, and stock returns fall, (b) dividend yield rises, and (c) the volatility rises. The first two effects imply a positive premium for long term bond relative to short term bond. Time-varying volatility in confidence implies time-varying volatility in macroeconomic and financial variables.

Work in Progress

“Ambiguity Yields, Bond Yields, and Dividend Yields”

“Portfolio Choice under Constant and Time Varying Ambiguity” 

“Central Bank Performance and Cross Country Stock Returns”