Borrowing costs and the demand for equity over the life cycle
Abstract: We construct a life-cycle model that delivers realistic behavior for both equity holdings and borrowings. The key model ingredient is a wedge between the cost of borrowing and the risk-free investment return. Borrowing can either raise or lower equity demand, depending on the cost of borrowing. A borrowing rate equal to the expected return on equity ? which we show roughly matches the data ? minimizes the demand for equity. Alternative models with no borrowing or limited borrowing at the risk-free rate cannot simultaneously fit empirical evidence on borrowing and equity holdings.
File(s): File format is text/html http://www.bostonfed.org/economic/wp/wp2005/wp057.htm
File(s): File format is application/pdf http://www.bostonfed.org/economic/wp/wp2005/wp057.pdf
Provider: Federal Reserve Bank of Boston
Part of Series: Working Papers
Publication Date: 2005