Title: Uninsurable Risk and Financial Market Puzzles
Abstract: Following Kocherlakota and Pistaferri (2007a), we consider two market structures: (i) where agents cannot insure at all their consumption against idiosyncratic skill shocks and (ii) where agents can insure their consumption against idiosyncratic skill shocks using the domestic financial markets, but, due to private information about agents' work effort and their skill shocks, financial intermediaries strike incentive compatible contracts, which prevents full risk sharing. For each of these two environments, we derive the associated pricing kernel. Empirical evidence is that the pricing kernel associated with (ii) jointly explains the equity premium, risk-free rate, currency premium, and consumption-real exchange rate puzzles.