International Asset Pricing with Heterogeneous Agents : Estimation and Inference

We test the ability of a heterogeneous-agents consumption-based asset pricing model to explain the cross-section of international equity market expected returns. In addition to aggregate consumption growth, all agents' common stochastic discount factor depends on the unique and unobservable state variable that drives the agents' income shocks. We proxy this unobservable factor by following cross-sectional model implications using the principal component of the cumulants of consumption growth across agents. We estimate the model's structural parameters from the Euler equations and empirically examine the approximate linear beta representation. Parameter estimates are statistically significant and within reasonable ranges compared to the relevant literature, and factor risk premium estimates additionally have expected theoretical signs. Our findings are robust to alternative model specifications and international asset menus. The model explanatory power of 60 % is much higher than the global Fama-French model