Equity Premium Puzzle

The equity premium puzzle is a term coined in 1985 by economists Rajnish Mehra and Edward C. Prescott. It is based on the observation that in order to reconcile the much higher returns of stocks compared to government bonds in the United States, individuals must have implausibly high risk aversion according to standard economics models. Similar situations prevail in many other industrialized countries. The puzzle has led to an extensive research effort in both macroeconomics and finance. So far a range of useful theoretical tools and several plausible explanations have been presented, but a solution generally accepted by the economics profession remains elusive.

Read more about Equity Premium PuzzlePossible Explanations, Implications

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Equity Premium Puzzle - Implications
... The magnitude of the equity premium has implications for resource allocation, social welfare, and economic policy ... Quiggin (2005) derive the following implications of the existence of a large equity premium Macroeconomic variability associated with recessions is expensive ...

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