ABSTRACT

Consumption and Expected Asset Returns without Assumptions about Unobservables (May 2006).

If asset returns are predictable, then rational expectations and the arithmetic of budget constraints together imply that these predictable changes in returns should affect current consumption. This paper represents a new framework linking consumption, income, and observable assets to expectations of future asset returns. Relative to previous work on this topic, the framework proposed in this paper has a number of advantages including not relying on untestable assumptions concerning unobservable variables and not requiring estimation of unknown parameters to arrive at a forecasting variable.