Second-order approximation of dynamic models with time-varying risk

Benigno, Gianluca, Benigno, Pierpaolo and Nisticò, Salvatore (2010) Second-order approximation of dynamic models with time-varying risk. CEP Discussion Papers (CEPDP1033). London School of Economics and Political Science. Centre for Economic Performance, London, UK.

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Abstract

This paper provides first and second-order approximation methods for the solution of nonlinear dynamic stochastic models in which the exogenous state variables follow conditionally-linear stochastic processes displaying time-varying risk. The first-order approximation is consistent with a conditionally-linear model in which risk is still timevarying but has no distinct role - separated from the primitive stochastic disturbances - in influencing the endogenous variables. The second-order approximation of the solution, instead, is sufficient to get this role. Moreover, risk premia, evaluated using only a first-order approximation of the solution, will be also time varying.

Item Type:	Monograph (Discussion Paper)
Official URL:	https://cep.lse.ac.uk/_new/publications/discussion...
Additional Information:	© 2010 The Author(s)
Divisions:	Economics
Subjects:	H Social Sciences > HC Economic History and Conditions
JEL classification:	C - Mathematical and Quantitative Methods > C6 - Mathematical Methods and Programming > C63 - Computational Techniques
Date Deposited:	29 Feb 2024 15:27
Last Modified:	29 Feb 2024 15:27
URI:	http://eprints.lse.ac.uk/id/eprint/121707

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