I’d like to know how to calculate equity premium in DSGE models.
I have the same problem that Cybueh posted before.
My understanding is as same as the following.
Could you please comment and complement my interpretation of how to calculate equity premium in DSGE models.?
I’m building my own DSGE model with equity premium considerations.
Could you please comment and complement my interpretation of the procedure used in the file?
In a first step, you simulate the calibrated (deflated) nonlinear model (1st order approximation) to observe macroeconomic variables’ behavior (growth of output, consumption, investment). In particular, the theoretical moments are of interest to evaluate the model’s ability to replicate stylized business cycle facts.
In a second step, you simulate the model for 50000 quarters (2nd order approximation) to observe financial variables (risk-free return, asset return, dividends, price of capital stock). This is necessary because we don’t have risk (and therefore no equity premium) in steady-state. We need simulations to find the unconditional mean. For these variables theoretical moments do not exist, that’s why we have to take the moments of simulated variables.
Why don’t you, for example, use a 3rd order approximation?
Thank you in advance!