The Risk Premium for Equity: Explanations and Implications

The equity premium puzzle shows that using standard parameters and setup, the Consumption-based Capital Asset Pricing Model's (CCAPM's) prediction of the premium associated with systematic risk is out by an order of magnitude.The object of this paper is to consider the implications of each of the broad classes of explanations of the equity premium puzzle for resource allocation, welfare and policy.We argue that the most robust implications are those that flow directly from the high price of systematic risk and are therefore independent of the resolution of the puzzle