Limited Participation in the Joint Behavior of Asset Prices and Individual Consumptions

We propose an asset pricing model featuring both limited participation and heterogeneity, in which agents randomly participate in the bond and stock markets according to a probability that depends on their non-financial income. We develop an indirect inference method to estimate our model on individual US consumption (CEX) and financial data. Our estimated model performs very well at jointly replicating the equity premium and the unequal distribution of individual consumptions. As an external validity check, our model accurately predicts the estimated stock market participation cost and its decline over the period 1980-2004, as well as observed financial market participation.