TESTING VOLATILITY RESTRICTIONS ON INTERTEMPORAL MARGINAL RATES OF SUBSTITUTION IMPLIED BY EULER EQUATIONS AND ASSET RETURNS

The Euler equations derived from intertemporal asset pricing models, t ogether with the unconditional moments of asset returns, imply a lower bound on the volatility of the intertemporal marginal rate of substit ution. This paper develops and implements statistical tests of these l ower bound restrictions. While the availability of short time series o f consumption data often undermines the ability of these tests to disc riminate among different utility functions, we find that the restricti ons implied by a number of widely studied financial data sets continue to pose quite a challenge to the current generation of intertemporal asset pricing theories.